HEALTH AND RETIREMENT PROPERTIES TRUST UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K [X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Fiscal Year Ended December 31, 1997 OR [ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT OF 1934 For the transition period from ______________ to ______________ Commission File Number 1-9317 HEALTH AND RETIREMENT PROPERTIES TRUST (Exact name of registrant as specified in its charter) Maryland 04-6558834 (State or other jurisdiction of incorporation) (IRS Employer Identification No.) 400 Centre Street, Newton, Massachusetts 02158 (Address of principal executive offices) (Zip Code) 617-332-3990 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: <TABLE> <CAPTION> Name of exchange on Title of each class which registered - ----------------------------------------------------------------------------------------------------- <S> <C> Common Shares of Beneficial Interest New York Stock Exchange 7.25% Convertible Subordinated Debentures due 2001 New York Stock Exchange 7.5% Convertible Subordinated Debentures due 2003, Series A New York Stock Exchange Remarketed Reset Notes New York Stock Exchange </TABLE> Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]
HEALTH AND RETIREMENT PROPERTIES TRUST The aggregate market value of the voting stock of the registrant held by non-affiliates was $1.9 billion based on the $19.6875 closing price per share for such stock on the New York Stock Exchange on March 5, 1998. For purposes of this calculation, 3,912,138 shares held by HRPT Advisors, Inc. (the "Advisor"), including a total of 2,777,766 shares held by Advisor solely in its capacity as voting Trustee under certain voting Trust agreements, 4,019,429 shares held by Government Properties Investors, Inc. subject to certain voting agreements with the Company and an aggregate of 30,550 shares held by the Trustees and executive officers of the registrant, have been included in the number of shares held by affiliates. Number of the registrant's Common Shares of Beneficial Interest, $.01 par value ("Shares"), outstanding as of March 1, 1998: 104,467,050. DOCUMENTS INCORPORATED BY REFERENCE Part III of this Annual Report on Form 10-K is incorporated herein by reference from the Company's definitive Proxy Statement for the annual meeting of shareholders currently scheduled to be held on May 12, 1998. The financial statements and financial statement schedules for Marriott International, Inc. ("Marriott") are incorporated herein by reference to Marriott's Annual Report on Form 10-K for the year ended January 2, 1998, Commission file No. 1-12188. CERTAIN IMPORTANT FACTORS The Company's Annual Report on Form 10-K contains statements which constitute forward looking statements within the meaning of the Securities Litigation Reform Act of 1995. Those statements appear in a number of places in this Form 10-K and include statements regarding the intent, belief or expectations of the Company, its Trustees or its officers with respect to expansion of the Company's portfolio, its ability to pay dividends, its tax status as a real estate investment trust and the Company's access to debt or equity capital markets or to other sources of funds and statements of assumptions underlying such statements as to intent, belief or expectations. Readers are cautioned that any such forward looking statements are not guarantees of future performance and involve risks and uncertainties and that actual results may differ materially from those contained in the forward looking statements as a result of various factors. Such factors include the status of the economy, compliance with and changes to regulations and payment and reimbursement policies within the health care industry, competition within the health care industry, and changes to federal, state and local legislation. The accompanying information contained or incorporated by reference in this Annual Report on Form 10-K, including under the heading "Business" and in the Company's Current Report on Form 8-K dated February 27, 1998, under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations", identifies other important factors that could cause such differences. THE AMENDED AND RESTATED DECLARATION OF TRUST OF THE COMPANY, DATED JULY 1, 1994, A COPY OF WHICH, TOGETHER WITH ALL AMENDMENTS THERETO (THE "DECLARATION"), IS DULY FILED IN THE OFFICE OF THE DEPARTMENT OF ASSESSMENTS AND TAXATION OF THE STATE OF MARYLAND, PROVIDES THAT THE NAME "HEALTH AND RETIREMENT PROPERTIES TRUST" REFERS TO THE TRUSTEES UNDER THE DECLARATION COLLECTIVELY AS TRUSTEES, BUT NOT INDIVIDUALLY OR PERSONALLY, AND THAT NO TRUSTEE, OFFICER, SHAREHOLDER, EMPLOYEE OR AGENT OF THE COMPANY SHALL BE HELD TO ANY PERSONAL LIABILITY, JOINTLY OR SEVERALLY, FOR ANY OBLIGATION OF, OR CLAIM AGAINST, THE COMPANY. ALL PERSONS DEALING WITH THE COMPANY, IN ANY WAY, SHALL LOOK ONLY TO THE ASSETS OF THE COMPANY FOR THE PAYMENT OF ANY SUM OR THE PERFORMANCE OF ANY OBLIGATION.
<TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST 1997 FORM 10-K ANNUAL REPORT Table of Contents Part I <S> <C> <C> Page Item 1. Business........................................................................ 1 Item 2. Properties...................................................................... 20 Item 3. Legal Proceedings............................................................... 22 Item 4. Submission of Matters to a Vote of Security Holders............................. 23 Part II Item 5. Market for the Registrant's Common Stock and Related Stockholders Matters....... 23 Item 6. Selected Financial Data......................................................... 25 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.................................................................. 25 Item 8. Financial Statements and Supplementary Data..................................... 26 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................................................. 26 Part III Item 10. Directors and Executive Officers of the Registrant.............................. * Item 11. Executive Compensation.......................................................... * Item 12. Security Ownership of Certain Beneficial Owners and Management.................. * Item 13. Certain Relationships and Related Transactions.................................. * * Incorporated by reference from the Company's Proxy Statement for the Annual Meeting of Shareholders currently scheduled to be held on May 12, 1998, to be filed pursuant to Regulation 14A. Part IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................. 26 </TABLE>
References in this Annual Report on Form 10-K to the "Company" or "HRP" include consolidated subsidiaries, unless the context indicates otherwise. PART I Item 1. Business The Company. Health and Retirement Properties Trust (the "Company") was organized on October 9, 1986 as a Maryland real estate investment trust. The Company invests in income producing real estate, including retirement communities, assisted living centers, long-term care facilities, medical office and other office buildings and office buildings leased to various agencies of the United States Government. The facilities in which the Company has made investments by mortgage, purchase/lease or merger transactions are hereinafter referred to individually as a "Property" and collectively as "Properties". As of December 31, 1997, the Company directly owned 183 Properties representing an aggregate investment of $2.0 billion (at cost), had mortgage investments in 34 Properties aggregating $104.3 million and had a 10.3% equity investment in Hospitality Properties Trust ("HPT") of approximately $111.1 million (carrying value), for total real estate investments of approximately $2.2 billion. The Properties are described in -"Business Developments Since January 1, 1997" and "Properties". Number of Total Investment State Properties at December 31, 1997 - ----- ---------- -------------------- (in thousands) Alaska ................................... 1 $ 1,000 Arizona .................................. 9 64,490 California ............................... 31 318,861 Colorado ................................. 11 52,434 Connecticut .............................. 9 96,476 District of Columbia ..................... 4 145,124 Florida .................................. 6 136,989 Georgia .................................. 5 15,181 Illinois ................................. 3 101,454 Iowa ..................................... 7 8,205 Kansas ................................... 4 7,544 Louisiana ................................ 1 19,185 Maryland ................................. 6 147,661 Massachusetts ............................ 30 203,016 Michigan ................................. 2 9,267 Missouri ................................. 3 11,424 Nebraska ................................. 10 10,733 New Hampshire ............................ 1 3,689 New Jersey ............................... 1 13,007 New Mexico ............................... 2 10,813 New York ................................. 5 164,848 North Carolina ........................... 6 15,944 Ohio ..................................... 4 17,712 Oklahoma ................................. 1 24,426 Pennsylvania ............................. 8 127,287 Rhode Island ............................. 1 8,100 South Dakota ............................. 3 7,589 Texas .................................... 12 112,635 Vermont .................................. 8 29,766 Virginia ................................. 5 81,703 Washington ............................... 4 40,548 West Virginia ............................ 1 4,792 Wisconsin ................................ 9 44,029 Wyoming................................... 4 17,379 ----- --------- Total..................................... 217 2,073,311 === Investment in HPT......................... 111,134 --------- Total Investments......................... $2,184,445 ========== 1
The Company's principal executive offices are located at 400 Centre Street, Newton, Massachusetts 02158, and its telephone number is (617) 332-3990. Investment Policy and Method of Operation. The Company's investment goals are current income for distribution to shareholders, capital growth resulting from appreciation in the residual value of owned Properties, and preservation and protection of shareholders' capital. The Company's income is derived primarily from rent and interest payments under its leases and mortgages. The Company's day to day operations are conducted by REIT Management and Research, Inc. ("RMR"), the Company's investment manager. RMR provides investment, management, property management and administrative services to the Company. RMR originates and presents investment opportunities to the Company's Board of Trustees (the "Trustees"). In evaluating potential investments, the Company considers such factors as: the historical and projected rents received and likely to be received from the property to meet operational needs and financing obligations and to provide a competitive market return on investment to the Company; the historic and expected operating expenses, including real estate taxes, incurred and expected to be incurred at the properties; the growth, tax and regulatory environments of the market in which the property is located; the quality, experience, and credit worthiness of the property's operator and tenants; an appraisal of the property, if available; occupancy and demand for similar properties in the same or nearby markets; the construction quality, physical condition and design of the property; the geographic area and type of property; and the pricing of comparable properties as evidenced by recent arms length market sales. Prior to investing in properties, the Company obtains title commitments or policies of title insurance insuring that the Company holds title to or has mortgage interests in such properties, free of material liens and encumbrances. The Company's investments are structured using leases with minimum and/or additional rent and escalation provisions, loans with fixed or floating rates, joint ventures and partnerships with affiliated or unaffiliated parties, commitments or options to purchase interests in real estate, mergers or any combination of the foregoing that will best suit the particular investment. In connection with its current bank credit facility (the "Credit Facility"), the Company has agreed to obtain lender approval before exceeding investment concentrations based on certain criteria (see - "Borrowing Policy"). Among these are that no more than 40% of its investments be operated by any single tenant or mortgagor, that investments in a) rehabilitation treatment, b) acute care, c) medical office and clinic buildings, and d) investments in government office properties not exceed 40%, 15%, 55% and 40%, respectively, of total investments and that no new psychiatric care or hotel investments be made. The Company is currently in discussions with its lenders to modify these restrictions. In addition to these restrictions, the Trustees may establish limitations as they deem appropriate from time to time. No limits, other than those in connection with the Credit Facility, have been set on the number of properties in which the Company will seek to invest, or on the concentration of investments involving any one facility or geographical area; however, the Trustees consider concentration of investments in determining whether to make new or increase existing investments. The Company's Declaration of Trust (the "Declaration") and operating policies provide that any investment in facilities owned or operated by RMR, persons expressly permitted under the Declaration to own more than 8.5% of the Company's shares, or any company affiliated with any of the foregoing must be approved by a majority of the Trustees not affiliated with any of the foregoing (the "Independent Trustees"). The Company has in the past and may in the future consider, from time to time, the acquisition of or merger with other companies engaged in the same business as the Company; however, the Company has no present agreements or understandings concerning any such acquisition or merger. The Company has no present intention of investing in the securities of others for the purpose of exercising control. Borrowing Policy. In addition to the use of equity, the Company utilizes short-term and long-term borrowings to finance investments. The Company has a Credit Facility for an aggregate amount of $450 million. The Company is currently in discussion with the lenders under the Credit Facility to amend the Credit Facility, to modify certain covenants of the Company and to increase the maximum principal amount that may be outstanding. No assurances can be given at this time that the Company and such lenders will reach a final agreement as to such changes. The Credit Facility (which is guaranteed by certain of the Company's subsidiaries) is used for acquisition 2
funding on an interim basis until equity or long term debt is raised, working capital and general business purposes. Outstanding borrowings under the Credit Facility at December 31, 1997 were $200 million. The Company's borrowing guidelines established by its Trustees and covenants in various debt agreements prohibit the Company from maintaining a debt to equity ratio of greater than 1 to 1. At December 31, 1997, the Company's debt to equity ratio was .62 to 1. The Declaration prohibits the Company from incurring secured and unsecured indebtedness which in the aggregate exceeds 300% of the net assets of the Company, unless approved by a majority of the Independent Trustees. There can be no assurance that debt capital will in the future be available at reasonable rates to fund the Company's operations or growth. Business Developments Since January 1, 1997 Investments In February 1997, the Company entered into an agreement to acquire 30 office buildings containing 3.4 million square feet (the "Government Office Properties"), substantially all of which are leased to various agencies of the United States Government. As of December 31, 1997, the Company acquired 29 properties, one of which is under construction, and elected not to acquire one property. Subsequent to December 31, 1997, one of the 29 properties was sold. The Company's aggregate purchase price for the 29 properties (3.3 million square feet) was approximately $439 million. The total purchase price for the Government Office Properties was paid by the issuance of $77 million in shares, the assumption of approximately $27 million of debt by subsidiaries of the Company secured by mortgages on three acquired properties, and a net cash payment of approximately $335 million, which was used in part to retire other debt of the seller assumed by the Company as part of the acquisition transaction and to pay closing costs. During 1997, the Company purchased 42 medical and other office and clinic buildings for an aggregate purchase price of approximately $525 million. Acquisitions of facilities or buildings with a purchase price of at least $25 million included the following: (a) a first class office building in midtown Manhattan containing approximately 420,368 square feet purchased in October 1997 for approximately $110 million (this building is 100% occupied under long term leases to three tenants, with the majority of the building being leased to Health Insurance Plan of Greater New York, a large not-for-profit health maintenance organization); (b) two first class buildings containing approximately 330,715 square feet plus two parking structures for approximately 1,700 cars located in West Los Angeles purchased in May 1997 for approximately $109 million (these buildings are known as the Cedars Sinai Medical Towers and Garages and are located adjacent to the Cedars Sinai Medical Center, an investment grade rated not-for-profit hospital which is also the largest tenant in these buildings); (c) an office complex in Austin, Texas containing five commercial office properties, with approximately 441,145 square feet purchased in December 1997 for $79 million; (d) a first class 25 story office tower located in Philadelphia containing approximately 608,161 square feet purchased in November 1997 for approximately $79 million (approximately 98% of this building is leased on a long-term basis to SmithKline Beecham Corporation, an investment grade rated international pharmaceutical manufacturer and distributor); and (e) 20 medical office and clinic buildings containing approximately 373,500 square feet located in central Massachusetts purchased in May 1997 for approximately $47 million (these buildings are triple net leased on a long term basis to a regional health maintenance organization that is partially owned by Tenet Healthcare Corporation). Certain of these properties are gross leased and the net operating income which the Company realizes from these investments will depend upon the efficiency with which the Company is able to operate these buildings. In May 1997, the Company purchased for $14 million a 200-unit retirement housing property located in Spokane, Washington. This property and three other retirement housing properties (629 units) purchased for $87.5 million in December 1996 are all net leased to Brookdale Living Communities, Inc. ("BLCI") for an initial term of 23 years plus renewal options totaling an additional 50 years. During 1997, BLCI was recapitalized by two public offerings of equity and as of December 31, 1997 had an equity market capitalization of over $124 million. During the period January 1, 1998 through March 5, 1998, the Company acquired 11 medical and other office buildings for $91.7 million. This acquisition was funded in part with borrowings under the Company's bank credit facility. During the period January 1, 1997 through March 5, 1998, the Company received $69.6 million of regularly scheduled principal payments and prepayments of mortgage loans. 3
Financing In October 1996, the Company sold three tranches of convertible subordinated debentures totaling $240 million. All of these debentures are convertible into common shares at a rate of $18 per share and are callable at par by the Company at any time on or after October 1, 1999. During 1997, the trading price of the Company's shares has averaged above $18 per share. Through March 5, 1998, approximately $29.2 million of these debentures have been converted into approximately 1.6 million common shares. In March 1997, the Company issued 27,025,000 common shares in a public offering. The gross proceeds of the offering were $510.1 million ($18.875 per share), and the net proceeds to the Company were $483.2 million. Such net proceeds were used to acquire the Government Office Properties. During February 1998, the Company issued an aggregate of 5,495,776 common shares in public offerings and received net proceeds of $104.4 million, which were used to repay amounts outstanding under the Company's Credit Facility, for acquisitions and general business purposes. In July 1997, the Company issued $200 million of Remarketed Reset Notes due July 9, 2007 ("Reset Notes"). The net proceeds of that issuance (approximately $199 million) were used to prepay other indebtedness of the Company then due in 1999 ($125 million) and to reduce amounts outstanding under the Company's Credit Facility. In February 1998, the Company issued an additional $50 million aggregate principal amount of Reset Notes (the "Additional Reset Notes"). Net proceeds from the offering of the Additional Reset Notes were used to reduce amounts outstanding under the Company's bank credit facility and for general business purposes. The Reset Notes currently bear interest at a floating rate equal to three month LIBOR plus a spread of .45% per annum. In July 1998, the Company will have the option to prepay the Reset Notes or to have the Reset Notes remarketed and the interest rate reset on either a floating or fixed rate basis. In July 1997, the Company's $250 million unsecured revolving credit facility with a syndicate of banks was increased to $450 million, and in March 1997, the term of the Credit Facility was extended to 2001. (See "--Borrowing Policy" above.) In December 1997, the Company issued $150 million of 6 3/4% Senior Notes due 2002 (the "6 3/4% Notes") in a private placement to institutional investors. The net proceeds from the offering (approximately $149 million) were used to reduce amounts then outstanding under the Company's Credit Facility. The Company has agreed with the initial purchasers of the 6 3/4% Notes to use its best efforts to consummate an offer to exchange the 6 3/4% Notes for new notes with terms substantially identical in all material respects to the 6 3/4% Notes, which would be registered pursuant to the Securities Act. Other Developments Horizon/CMS Healthcare Corporation; HEALTHSOUTH Corporation; and Integrated Health Services, Inc. As of December 31, 1997, the Company had invested approximately $168 million, at cost, in properties that had been leased by, mortgaged to or managed by Horizon/CMS Healthcare Corporation ("HHC"). In October 1997, HHC merged into HEALTHSOUTH Corporation ("HEALTHSOUTH"). In return for the Company's consent to this merger, HEALTHSOUTH agreed to guarantee unconditionally all of the lease, mortgage and management obligations of HHC due to the Company and to extend the terms of the management contracts of three properties that were scheduled to expire during 1998 until 2001. In December 1997, HRP consented to the release of HEALTHSOUTH from the guarantee and to the assignment of certain leases and mortgages from HEALTHSOUTH and its predecessor, HHC, to Integrated Health Services, Inc. ("IHS") as part of a $1.2 billion transaction between HEALTHSOUTH and IHS for nursing homes, specialty hospitals and pharmacy services. In connection with this consent, IHS guaranteed leases, mortgages and management obligations to HRP affecting the former HHC properties, and the maturities of these leases, mortgages and management obligations, which were previously scheduled for 2000, 2001 and 2005, were extended to 2006. GranCare, Inc.; Living Centers of America, Inc.; and Paragon Health Network, Inc. As of December 31, 1997, the Company had invested approximately $98 million, at cost, in properties that had been leased to, or mortgaged by, GranCare, Inc. ("GC"). In February 1997, GC distributed to its shareholders all of its nursing home operations and merged its pharmacy business into Vitalink, Inc. ("Vitalink"), another public company. Under the terms of the GC Vitalink agreement, the GC nursing home operations became a new public company ("New GC"), and certain subsidiaries of New GC remained tenants of and mortgagors to the Company (the "Tenant 4
Subsidiaries"). The Company consented to this GC Vitalink transaction on certain terms and conditions, including: (i) all of the leases and mortgages between the Company and the Tenant Subsidiaries being cross defaulted, cross collateralized, cross secured and unconditionally guaranteed by New GC; (ii) Vitalink providing a $15 million unconditional guarantee of the obligations due to the Company; and (iii) GC paying an amendment fee to the Company. In October 1997, New GC merged into Living Centers of America, Inc. ("LCA"), another public company. As part of the New GC LCA transaction a large number of LCA and New GC shares were repurchased, LCA was recapitalized by new investors, the combined New GC LCA enterprise changed its name to Paragon Health Network, Inc. ("Paragon"), and Paragon solicited the Company to release Vitalink from its guaranty obligations to the Company. The Company consented to the New GC LCA Paragon transaction and released Vitalink from its guaranty on certain terms and conditions, including: (a) certain mortgage obligations totaling approximately $11.5 million due to the Company being prepaid in full; (b) certain properties owned by the Company and leased to the Tenant Subsidiaries being exchanged for other properties formerly owned by LCA or the Tenant Subsidiaries, which properties were to be leased to the Tenant Subsidiaries; (c) the term of certain leases being extended and all renewal options for properties leased to the Tenant Subsidiaries being renewable only on an all or none basis; (d) the rent payable to the Company being increased; (e) all obligations with respect to all properties leased or financed with the Tenant Subsidiaries being guaranteed by Paragon and the guaranty being secured by a cash deposit of $15 million; (f) all obligations of the Tenant Subsidiaries being subject to cross default and cross collateralization, and guaranteed by New GC (now a subsidiary of Paragon); and (g) payment to the Company of an amendment fee. Community Care of America, Inc. and Integrated Health Services, Inc. As of December 31, 1997, the Company had invested approximately $112 million, at cost, in properties that had been operated by Community Care of America, Inc. ("CCA"). In September 1997, CCA was acquired by IHS. The Company consented to IHS's acquisition of CCA on certain terms and conditions including: (i) mortgages due to the Company totaling approximately $12.2 million being prepaid in full; (ii) certain properties formerly leased to CCA being purchased from the Company at their historical cost of approximately $33.5 million; (iii) the extension of terms of certain remaining leases and mortgages; (iv) the remaining leases and mortgages being subject to cross default and cross collateralization, and unconditionally guaranteed by IHS; and (v) payment to the Company of an amendment fee. Marriott Spin Off and Merger. As of December 31, 1997, the Company had invested approximately $326 million, at cost, in properties leased to a subsidiary of Marriott International, Inc. ("Marriott"). In October 1997, Marriott announced a plan to dividend to its shareholders a new company which will own and operate Marriott's lodging and senior living businesses and to merge the remaining company with Sodexho S.A. As a result of this spin off and merger the Company's current guarantor was expected to have a negative net worth and its obligations were not expected to be rated investment grade. Upon learning of this planned transaction, the Company commenced negotiations with Marriott and, as a result of those negotiations, an agreement has been entered into that will be effective upon consummation of the Marriott spin off and merger transaction. This agreement requires that the spin off entity created by Marriott assume the guarantee obligations to the Company. The new spin off entity is expected to be investment grade rated. In May 1997, the Company filed a $1.0 billion Shelf Registration Statement on Form S-3 (the "Shelf") that has been declared effective by the Securities and Exchange Commission. At March 1, 1998, $539.7 million was available to be drawn on the Shelf. The Investment Manager RMR is a Delaware corporation owned by Gerard M. Martin and Barry M. Portnoy. RMR's principal executive offices are located at 400 Centre Street, Newton, Massachusetts 02158, and its telephone number is (617) 332-3990. As of January 1, 1998, the Company entered into separate investment advisor and property management agreements with RMR. RMR provides investment, management, property management services for some of the recently acquired Government Properties and medical and other office buildings and administrative services to the Company. In addition, an affiliate of RMR also provides garage management services to the Company. During the three years ended December 31, 1997, such services were provided by Advisor, and M&P Partners Limited Partnership ("M&P") on similar terms. RMR also acts as the investment manager to HPT and has other business interests. The Directors of RMR are Gerard M. Martin, Barry M. Portnoy and David J. Hegarty. The officers of RMR are David J. Hegarty, President and Secretary, John G. Murray, Executive Vice President, John Popeo, Treasurer, and Ajay Saini, John A. Mannix, David Lepore and Thomas M. O'Brien, Vice Presidents. Gerard M. Martin and Barry M. Portnoy are Managing Trustees of the Company and David J. Hegarty and Ajay Saini are 5
officers of the Company. The beneficial ownership of Advisor (which is the General Partner of M&P) and M&P is the same as that of RMR and immediately prior to January 1, 1998, the directors and officers of Advisor were the same as those who currently hold positions with RMR. Employees As of March 5, 1998, the Company had no employees. RMR, which administers the day-to-day operations of the Company, has 111 full-time employees and three active directors. Regulation and Reimbursement Compliance with federal, state and local statutes and regulations governing health care facilities is a prerequisite to continuation of the Company's business. The health care industry depends significantly upon federal and federal/state programs for revenues and, as a result, is vulnerable to the budgetary policies of both the federal and state governments. Certificates of Need. Certain of the Company's investments are in healthcare properties which require certificates of need ("CONs") prior to expansion of beds or services, certain capital expenditures, and in some states, a change in ownership. CON requirements are not uniform throughout the United States. Changes in CON requirements may affect competition, profitability of the Properties and the Company's opportunities for investment in health care facilities. Federal Regulation. The Company's healthcare properties are affected by a number of federal and state statutes and regulations including those related to reimbursement under Medicare and Medicaid programs. Such laws, among other things, limit reimbursement for capital costs and in some circumstances for rental or lease expenses. Such laws also include federal and state anti-fraud and anti-kickback statutes and regulations. The Balanced Budget Act of 1997 (Public Law 105-33) (the "BBA") directs the federal Department of Health and Human Services ("HHS") to adopt a Medicare prospective payment system for skilled nursing facilities which will include capital-related costs and which will be phased in over four years beginning July 1, 1998. The BBA also increases states' flexibility in establishing Medicaid rates for nursing facility services, and strengthens the ability of HHS and the states to exclude providers for health care-related offenses. An adverse determination concerning any operator's licensure or eligibility for government reimbursement or its compliance with applicable federal or state statutes on regulations could materially and adversely affect such operator and its affiliates. A number of legislative proposals that would affect major reforms of the health care system have been introduced in Congress. Such proposals include universal health coverage, employer mandated insurance, and a single government health insurance plan. Following the failure of the Clinton administration's proposed Health Security Act or other major health care reform legislation to become law in 1994, legislative proposals for more incremental reforms have also been introduced, such as group health insurance plans for small businesses, health insurance industry reforms, and additional Medicare and Medicaid reforms and cost containment measures, including proposals that Medicaid be administered through block grants to the states and per capita limits on state Medicaid spending. The Company cannot predict whether any such legislative proposals will be adopted or, if adopted, what effect, if any, such proposals would have on the business of the Company or its lessees or mortgagors. Competition. The Company competes with other real estate investment trusts in that each is continually seeking attractive investment opportunities in health care facilities and other types of real estate. The Company also competes with banks, non-bank finance companies, leasing companies and insurance companies. 6
FEDERAL INCOME TAX CONSIDERATIONS The Company has elected to be taxed as a Real Estate Investment Trust ("REIT") under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended and in effect from time to time (the "Code"), commencing with its taxable year ending December 31, 1987. The Company believes it has been organized and has operated in a manner that qualifies it to be taxed under the Code as a REIT commencing with that taxable year, and the Company intends to continue to operate in a manner to so qualify. No assurance can be given, however, that the manner in which the Company has operated or will operate qualified or will qualify the Company to be taxed as a REIT. The Company has obtained legal opinions from its counsel Sullivan & Worcester LLP that the Company has been organized in conformity with the requirements for qualification as a REIT, has qualified as a REIT for its 1987, 1988, 1989, 1990, 1991, 1992, 1993, 1994, 1995, 1996 and 1997 taxable years, and that its current and anticipated investments and its plan of operation will enable it to continue to meet the requirements for qualification and taxation as a REIT under the Code. These opinions are conditioned upon the assumption that the leases, the Declaration and the Company's Bylaws, and all other legal documents to which the Company is or has been a party have been and will be complied with by all parties thereto, upon the accuracy and completeness of the factual matters described in this Annual Report, and upon representations made by the Company as to certain factual matters relating to the Company's organization and operations and its expected manner of operation. In addition, such opinions are based on the law then existing and in effect on the date thereof. Opinions of counsel are not binding on the Internal Revenue Service ("IRS") or a court and there can be no assurance that the IRS or a court will not take a position different from that expressed by counsel. The Company's actual qualification and taxation as a REIT will depend upon the Company's ability to meet on a continuing basis, through actual operating results, asset composition, distribution levels, and diversity of stock ownership, the various REIT qualification tests imposed under the Code, discussed below. While the Company has represented that it has operated and will operate in a manner so as to satisfy on a continuing basis the various REIT qualification tests, Sullivan & Worcester LLP has not reviewed and will not review compliance with these tests on a continuing basis, and no assurance can be given that the Company has satisfied or will satisfy such tests on a continuing basis. If the Company fails to qualify as a REIT in any year, it will be subject to federal income taxation as if it were a domestic corporation, and its shareholders will be taxed in the same manner as shareholders of ordinary corporations. In such an event, the Company could be subject to potentially significant tax liabilities, and therefore the amount of cash available for distribution to its shareholders would be reduced or eliminated. The following summary is based on existing law, is limited to investors who will hold the Shares as "capital assets" within the meaning of Section 1221 of the Code (generally, property held for investment), is not exhaustive of all possible tax considerations, and does not discuss any state, local, or foreign tax considerations. Additionally, the following summary does not discuss the particular tax consequences that might be relevant to holders of Shares who may be subject to special rules under the federal income tax law, such as life insurance companies, regulated investment companies, financial institutions, brokers or dealers in securities or foreign currency, persons that have a functional currency other than the U.S. dollar, persons who acquired Shares or options to acquire Shares in connection with their employment or other performance of services, persons subject to alternative minimum tax, persons who hold Shares as part of a straddle, hedging transaction, or conversion transaction or, except as specifically described herein, tax-exempt entities and foreign persons. The sections of the Code that govern the federal income tax qualification and treatment of a REIT and its shareholders are highly technical and complex. The following summary is thus qualified in its entirety by the applicable Code provisions, the rules and regulations promulgated thereunder, and the administrative and judicial interpretations thereof, all of which are subject to change, possibly with retroactive effect. Thus, no assurance can be given that future legislative, judicial, or administrative actions or decisions will not affect the accuracy of any statements in this summary. In addition, no ruling has been or is expected to be sought from the IRS with respect to any matter discussed herein, and there can be no assurance that the IRS or a court will agree with the statements made herein. Accordingly, each shareholder is urged to consult his own tax advisor with respect to the federal income tax and other tax consequences of the purchase, holding and sale of Shares. Taxation of the Company. If the Company qualifies for taxation as a REIT and distributes to its shareholders at least 95% of its "real estate investment trust taxable income" (determined by excluding any net capital gain and before taking into account any dividends paid deduction), it generally will not be subject to federal corporate income taxes on the amount distributed. This deduction for dividends paid to shareholders substantially 7
eliminates the federal "double taxation" on earnings (once at the corporate level and again at the shareholder level) that generally results from an investment in a corporation. However, even if the Company qualifies for federal income taxation as a REIT, it may be subject to federal tax in certain circumstances. First, the Company will be taxed at regular corporate rates on any undistributed "real estate investment trust taxable income," including undistributed net capital gains. Second, under certain circumstances, the Company may be subject to the corporate "alternative minimum tax" on its items of tax preference, if any. Third, if the Company has (i) net income from the sale or other disposition of "foreclosure property" (generally, property acquired by the Company through foreclosure or otherwise after a default on a loan secured by the property or on a lease of the property) that is held primarily for sale to customers in the ordinary course of business or (ii) other nonqualifying income from foreclosure property, then the Company will be subject to tax on such income at the highest regular corporate rate (currently 35%). Fourth, if the Company has net income from prohibited transactions (generally, certain sales or other dispositions of inventory or property held primarily for sale to customers in the ordinary course of business, other than foreclosure property), such income will be subject to tax at a 100% rate. Fifth, if the Company should fail to satisfy the 75% gross income test or the 95% gross income test (discussed below), but nonetheless maintains its qualification as a REIT because certain other requirements are met, the Company will be subject to tax at a 100% rate on the greater of the amount by which the Company fails the 75% or the 95% test, multiplied by a fraction intended to reflect the Company's profitability. Sixth, if the Company should fail to distribute for any calendar year at least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95% of its REIT capital gain net income for such year, and (iii) any undistributed taxable income from prior periods, the Company will be subject to a 4% excise tax on the excess of such required distribution over the amounts actually distributed. Seventh, if the Company acquires any asset from a C corporation (generally, a corporation subject to full corporate level tax) in a transaction in which the basis of the asset in the Company's hands is determined by reference to the basis of the asset in the hands of the C corporation, and if the Company subsequently recognizes gain on the disposition of such asset during the ten-year period beginning on the date on which the asset was acquired by the Company, then the Company will pay tax at the highest regular corporate tax rate (currently 35%) on the lesser of (i) the excess of the fair market value of the asset over the Company's basis in the asset on the date acquired by the Company and (ii) the gain recognized by the Company. If the Company should invest in properties in foreign countries, the Company's profits from such investments will generally be subject to tax in the countries where such properties are located. The nature and amount of any such taxation will depend on the laws of the countries where the properties are located. If the Company satisfies the annual distribution requirements for federal income tax qualification as a REIT and is therefore not subject to federal corporate income tax on that portion of its ordinary income and capital gain that is currently distributed to its shareholders, the Company will generally not be able to recover the cost of any foreign tax imposed on profits from its foreign investments by claiming foreign tax credits against its federal income tax liability on such profits. Moreover, a REIT is not able to pass through to its shareholders any foreign tax credits. The Company's Wholly-Owned Subsidiaries. Section 856(i) of the Code provides that a corporation that is a qualified REIT subsidiary (defined as any corporation 100% of whose stock is held by the REIT at all times during the period the corporation is in existence) shall not be treated as a separate corporation, and all assets, liabilities, and items of income, deduction, and credit of a qualified REIT subsidiary shall be treated as assets, liabilities and items of income, deduction, and credit of the REIT. (For the Company's taxable years commencing on or after January 1, 1998, a wholly-owned corporation qualifies as a qualified REIT subsidiary even though there was a period of time during which the Company did not own 100% of its stock; such corporation will be treated for federal income tax purposes as though liquidated into the Company at the time the Company acquired 100% ownership, and then reincorporated by the Company as a qualified REIT subsidiary.) The Company believes that each of its direct and indirect wholly-owned subsidiaries qualifies either as a qualified REIT subsidiary within the meaning of Section 856(i) of the Code, or as a noncorporate entity that for federal income tax purposes is not treated as separate from its owner pursuant to Treasury Regulations under Section 7701 of the Code. Thus, in applying all the federal income tax REIT qualification requirements discussed herein, the Company's direct and indirect wholly-owned subsidiaries are ignored, and all assets, liabilities, and items of income, deduction and credit of those subsidiaries are treated as assets, liabilities and items of income, deduction and credit of the Company. The Company's Investments through Partnerships. The Company has invested, and in the future may invest, in real estate through one or more limited or general partnerships or limited liability companies that is treated as a partnership for federal income tax purposes. In the case of a REIT that is a partner in a partnership, Treasury Regulations provide that for purposes of the REIT qualification requirements regarding income and assets discussed 8
below, the REIT is deemed to own its proportionate share of the assets of the partnership corresponding to the REIT's proportionate capital interest in such partnership and is deemed to be entitled to the income of the partnership attributable to such proportionate share. In addition, for these purposes, the character of the assets and gross income of the partnership generally retain the same character in the hands of the REIT. Accordingly, the Company's proportionate share of the assets, liabilities, and items of income of each partnership in which it is a partner are treated as assets, liabilities, and items of income of the Company for purposes of the income tests and asset tests discussed below. However, for purposes of the REIT's distribution requirement discussed below, a REIT must take into account as a partner its distributive share of the partnership's income as determined under the general federal income tax rules governing partners and partnerships under Sections 701 et seq. of the Code. REIT Qualification Requirements--Generally. Section 856(a) of the Code defines a REIT as a corporation, trust or association: (1) which is managed by one or more trustees or directors; (2) the beneficial ownership of which is evidenced by transferable shares or by transferable certificates of beneficial interest; (3) which would be taxable, but for Sections 856 through 859 of the Code, as a domestic corporation; (4) which is neither a financial institution nor an insurance company subject to certain provisions of the Code; (5) the beneficial ownership of which is held by 100 or more persons; (6) which is not "closely held" as determined under the personal holding company stock ownership test (as applied with modifications); and (7) which meets certain other tests regarding income, assets, and distributions, as described below. Section 856(b) of the Code provides that conditions (1) to (4), inclusive, must be met during the entire taxable year and that condition (5) must be met during at least 335 days of a taxable year of 12 months, or during a proportionate part of a taxable year of less than 12 months. It is the Company's belief and expectation that it has had and will have at least 100 shareholders during the requisite period for each of its taxable years since its election to be taxed as a REIT. There can, however, be no assurance in this connection and, if the Company has fewer than 100 shareholders during the requisite period, condition (5) described above will not be satisfied, and the Company would not qualify as a REIT during such taxable year. By reason of the "closely held" condition (6) above, the Company will fail to qualify as a REIT for a taxable year if at any time during the last half of such year more than 50% in value of its outstanding Shares is owned directly or indirectly by five or fewer individuals. To help maintain conformity with condition (6), the Declaration contains certain provisions restricting transfers of Shares and giving the Trustees the power to redeem Shares involuntarily. For its taxable years commencing on or after January 1, 1998, if the Company complies with Treasury Regulations for ascertaining the ownership of its outstanding Shares and does not know or, exercising reasonable diligence would not have known, whether it failed condition (6), then the Company will be treated as satisfying condition (6). Also, for its taxable years commencing on or after January 1, 1998, the Company's failure to comply with the Treasury Regulations for ascertaining ownership of its outstanding Shares may result in a penalty of $25,000 ($50,000 for intentional violations). Accordingly, the Company will, pursuant to the Treasury Regulations, request annually from record holders of certain significant percentages of its Shares certain information regarding the ownership of such Shares. Under the Declaration, shareholders are required to respond to such requests for information. The rule that an entity will fail to qualify as a REIT for a taxable year if at any time during the last half of such year more than 50% in value of its outstanding shares is owned directly or indirectly by five or fewer individuals is relaxed in the case of certain pension trusts owning shares in a REIT. Shares in a REIT held by such a pension trust are treated as held directly by its beneficiaries in proportion to their actuarial interests in the pension trust. Consequently, five or fewer pension trusts could own more than 50% of the interests in an entity without jeopardizing its federal income tax qualification as a REIT. However, as discussed below, if the REIT is a "pension- held REIT," each pension trust holding more than 10% of its shares (by value) generally will be taxable on a portion of the dividends it receives from the REIT, based on the ratio of the REIT's gross income for the year which would be unrelated trade or business income if the REIT were a qualified pension trust to the REIT's total gross income for the year. To qualify as a REIT under the Code, the Company must elect to be so treated and must meet other requirements, certain of which are summarized below, including percentage tests relating to the sources of its gross income, the nature of its assets, and the distribution of its income to shareholders. The Company made such an election for 1987 (its first full year of operations), and such election, assuming continuing compliance with the federal income tax qualification tests discussed herein, continues in effect for subsequent years. Income Tests. There are three gross income requirements, only two of which apply to the Company for its taxable years commencing on or after January 1, 1998. First, at least 75% of the Company's gross income 9
(excluding gross income from certain sales of property held primarily for sale) must be derived directly or indirectly from investments relating to real property (including "rents from real property"), mortgages on real property, or shares in other REITs. When the Company receives new capital in exchange for its Shares (other than dividend reinvestment amounts) or in a public offering of five-year or longer debt instruments, income attributable to the temporary investment of such new capital in stock or a debt instrument, if received or accrued within one year of the Company's receipt of the new capital, is qualifying income under the 75% test. Second, at least 95% of the Company's gross income (excluding gross income from certain sales of property held primarily for sale) must be derived from such real property investments, dividends, interest, certain payments under interest rate swap or cap agreements (and for the Company's taxable years commencing on or after January 1, 1998, certain payments under options, futures contracts, forward rate agreements, or similar financial instruments), and gain from the sale or disposition of stock, securities, or real property, or from any combination of the foregoing. Third, for the Company's taxable years ending on or before December 31, 1997, short-term gain from the sale or other disposition of stock or securities (including, without limitation, stock in other REITs), dispositions of interest rate swap or cap agreements, and gain from certain prohibited transactions or other dispositions of real property held for less than four years (apart from involuntary conversions and sales of foreclosure property) must have represented less than 30% of the Company's gross income. For purposes of these three gross income rules, income derived from a "shared appreciation provision" in a mortgage loan is generally treated as gain recognized on the sale of the property to which it relates. Even though the Company does not own mortgage loans that contain shared appreciation provisions, the Company may in the future make such mortgage loans. The Company temporarily invests working capital in short-term investments, including shares in other REITs. Although the Company will use its best efforts to ensure that the income generated by its investments will be of a type which satisfies the 75% and 95% gross income tests, there can be no assurance in this regard. In order to qualify as "rents from real property," several requirements must be met. First, the amount of rent received generally must not be determined from the income or profits of any person, but may be based on receipts or sales. Second, the Code provides that rents will not qualify as "rents from real property" in satisfying the gross income tests if the REIT owns 10% or more of the tenant, whether directly or under certain attribution rules. The Company intends not to lease property to any party if rents from such property would not so qualify. Application of the 10% ownership rule is, however, dependent upon complex attribution rules and upon circumstances beyond the control of the Company. Ownership, directly or by attribution, by an unaffiliated third party of more than 10% of the Shares and more than 10% of the stock of a lessee would result in lessee rents not qualifying as "rents from real property." The Declaration provides that transfers or purported acquisitions, directly or by attribution, of Shares that could result in disqualification of the Company as a REIT are null and void and permits the Trustees to repurchase Shares to the extent necessary to maintain the Company's status as a REIT. Nevertheless, there can be no assurance such provisions in the Declaration will be effective to prevent the Company's REIT status from being jeopardized under the 10% lessee affiliate rule. Furthermore, there can be no assurance that the Company will be able to monitor and enforce such restrictions, nor will shareholders necessarily be aware of shareholdings attributed to them under the attribution rules. Third, in order for its rents to qualify as "rents from real property," the Company must not manage the property or furnish or render services to the tenants of such property, except through an independent contractor from whom the Company derives no income. There is an exception to this rule permitting a REIT to perform certain customary tenant services of the sort which a tax-exempt organization could perform without being considered in receipt of "unrelated business taxable income." For the Company's taxable years commencing on or after January 1, 1998, a de minimis amount of noncustomary services will not disqualify income as rents from real property so long as the value of the impermissible services does not exceed 1% of the gross income of the property. Fourth, if rent attributable to personal property leased in connection with a lease of real property is greater than 15% of the total rent received under the lease, then the portion of rent attributable to such personal property will not qualify as "rents from real property." The portion of rental income treated as attributable to personal property is determined according to the ratio of the tax basis of the personal property to the total tax basis of the property which is rented. Substantially all of the gross income of the Company has been and is expected to be attributable to rental income. The Company believes that all or substantially all such rents have qualified and will continue to qualify as "rents from real property" for purposes of Section 856 of the Code, but if for some reason a significant amount of such rents do not so qualify, it may be difficult or impossible for the Company to meet the 95% or 75% gross income tests and to qualify as a REIT for federal income tax purposes. In order to qualify as mortgage interest on real property for purposes of the 75% test, interest must derive from a mortgage loan secured by real property with a fair market value at least equal to the amount of the loan. If the amount of the loan exceeds the fair market value of the real property, the interest will be treated as interest on a 10
mortgage loan in a ratio equal to the ratio of the fair market value of the real property to the total amount of the mortgage loan. Any gain realized by the Company on the sale of any property held as inventory or other property held primarily for sale to customers in the ordinary course of business will be treated as income from a prohibited transaction that is subject to a penalty tax at a 100% rate. This prohibited transaction income also may have an adverse effect upon the Company's ability to satisfy the 75% and 95% gross income tests for federal income tax qualification as a REIT. Under existing law, whether property is held as inventory or primarily for sale to customers in the ordinary course of a trade or business is a question of fact that depends on all the facts and circumstances with respect to the particular transaction. The Company intends to hold its real estate assets for investment with a view to long-term appreciation, to engage in the business of developing, owning and operating its existing real estate assets and acquiring, developing, owning and operating other real estate assets, and to make occasional dispositions of real estate assets as is consistent with the Company's investment objectives. There can be no assurance, however, that the IRS might not contend that one or more dispositions is subject to the 100% penalty tax. If the Company fails to satisfy one or both of the 75% or 95% gross income tests for any taxable year, it may nevertheless qualify as a REIT for such year if (i) the Company's failure to meet such test was due to reasonable cause and not due to willful neglect, (ii) the Company reported the nature and amount of each item of its income included in the 75% or 95% gross income tests (as the case may be) for such taxable year on a schedule attached to its return, and (iii) any incorrect information on the schedule was not due to fraud with intent to evade tax. No similar provision provides relief if the Company failed the 30% gross income test for the taxable years such test was applicable, and it is not possible to state whether in all circumstances the Company would be entitled to the benefit of the relief provisions for the 75% and 95% gross income tests. As discussed above, even if these relief provisions do apply, a special tax equal to 100% is imposed upon the greater of the amount by which the Company failed the 75% test or the 95% test, multiplied by a fraction intended to reflect the Company's profitability. Asset Tests. At the close of each quarter of the Company's taxable year, it must also satisfy three tests relating to the nature of its assets. First, at least 75% of the value of the Company's total assets must consist of real estate assets (which for this purpose includes stock or debt instruments held for not more than one year purchased with proceeds of a stock offering or a long-term (at least five years) debt offering of the Company), cash, cash items, shares in other REITs, and government securities. Second, not more than 25% of the Company's total assets may be represented by securities (other than those includable in the foregoing 75% asset class). Third, of the investments included in the foregoing 25% asset class, the value of any one issuer's securities owned by the Company may not exceed 5% of the value of the Company's total assets, and the Company may not own more than 10% of any one issuer's outstanding voting securities. President Clinton has proposed legislation that would expand this last prohibition so that the Company would not be permitted to own more than 10%, either by vote or by value, of any one issuer's outstanding securities. Where a failure to satisfy the foregoing asset tests results from an acquisition of securities or other property during a quarter, the failure can be cured by disposition of sufficient nonqualifying assets within 30 days after the close of such quarter. The Company intends to maintain adequate records of the value of its assets to maintain compliance with the foregoing asset tests, and to take such action as may be required to cure any failure to satisfy the tests within 30 days after the close of any quarter. Annual Distribution Requirements. In order to qualify as a REIT, the Company is required to distribute dividends (other than capital gain dividends) to its shareholders each year in an amount at least equal to the excess of (A) the sum of (i) 95% of the Company's "real estate investment trust taxable income" (computed without regard to the dividends paid deduction and net capital gain) and (ii) 95% of the net income (after tax), if any, from foreclosure property, over (B) the sum of certain noncash income (e.g., certain imputed rental income or certain income from transactions inadvertently failing to qualify as like-kind exchanges). Such distributions must be paid in the taxable year to which they relate, or in the following taxable year if declared before the Company timely files its tax return for such earlier taxable year and if paid on or before the first regular dividend payment after such declaration. Also, dividends declared in October, November, or December and paid during the following January will be treated as having been paid and received on December 31. A distribution which is not pro rata within a class of beneficial interest in the Company entitled to a dividend, or which is not consistent with the rights to distributions between classes of beneficial interests in the Company, is a preferential dividend that is not taken into consideration for purposes of the distribution requirement, and accordingly the payment of a preferential dividend could affect the Company's ability to meet the distribution requirement. Taking into account the Company's distribution policies 11
(including its dividend reinvestment plan), the Company believes that it has not made and expects that it will not make any such preferential dividend. The distribution requirements may be waived by the IRS if the REIT establishes that it failed to meet them by reason of distributions previously made to meet the requirements of the 4% excise tax discussed below. To the extent that the Company does not distribute all of its net capital gain and all of its "real estate investment trust taxable income," as adjusted, it will be subject to tax thereon. In addition, the Company will be subject to a 4% excise tax to the extent it fails within a calendar year to make "required distributions" to its shareholders of 85% of its ordinary income and 95% of its capital gain net income plus the excess, if any, of the "grossed up required distribution" for the preceding calendar year over the amount treated as distributed for such preceding calendar year. For this purpose, the term "grossed up required distribution" for any calendar year is the sum of the taxable income of the Company for the calendar year (without regard to the deduction for dividends paid) and all amounts from earlier years that are not treated as having been distributed under the provision. It is possible that the Company, from time to time, may not have sufficient cash or other liquid assets to meet the 95% distribution requirements due to timing differences between (i) the actual receipt of income and actual payment of deductible expenses or distributions and (ii) the inclusion of such income and deduction of such expenses or distributions in arriving at "real estate investment trust taxable income" of the Company. The problem of inadequate cash to make required distributions could also occur as a result of the repayment in cash of principal amounts due on the Company's outstanding debt, particularly in the case of "balloon" repayments or as a result of capital losses on short-term investments of working capital. Therefore, the Company might find it necessary to arrange for short-term or possibly long-term borrowing, or for new equity financing, to provide funds for required distributions, or else its REIT status for federal income tax purposes could be jeopardized. There can be no assurance that such borrowing or financing would be available on favorable terms. Under certain circumstances, the Company may be able to rectify a failure to meet the distribution requirement for a year by paying "deficiency dividends" to shareholders in a later year, which may be included in the Company's deduction for dividends paid for the earlier year, although an interest charge would be imposed upon the Company for the delay in distribution. Although the Company may thus be able to avoid being taxed on amounts distributed as deficiency dividends, the Company may in certain circumstances remain liable for the 4% excise tax discussed above. For its taxable years ending on or before December 31, 1997, the Company was required to request annually from record holders of certain significant percentages of its Shares certain information regarding the ownership of such Shares, in order to qualify for the deduction for dividends paid to its shareholders. As discussed above, for taxable years commencing on or after January 1, 1998, the Company will continue to request such information in order to comply with the REIT qualification requirement regarding ownership concentration of its Shares. Federal Income Tax Treatment of Leases. The availability to the Company of, among other things, depreciation deductions with respect to the facilities owned and leased by the Company will depend upon the treatment of the Company as the owner of the facilities and the classification of the leases of the facilities as true leases, rather than as sales or financing arrangements, for federal income tax purposes. As to the approximately 2% of the Company's leased facilities which constitutes personal property, it is not entirely clear that the Company will be treated as the owner of such personal property and that the leases will be treated as true leases with respect to such property. The Company plans to insure its compliance with the 95% distribution requirement (and the excise tax "required distribution" requirement) by making distributions on the assumption that it is not entitled to depreciation deductions for the 2% of the leased facilities which constitute personal property, but to perform all its tax reporting by taking into account such depreciation. In the case of certain sale-leaseback arrangements, the IRS could assert that the Company realized prepaid rental income in the year of purchase to the extent that the value of a leased property exceeds the purchase price paid by the Company for that property. In litigated cases involving sale-leasebacks which have considered this issue, courts have concluded that buyers have realized prepaid rent where both parties acknowledged that the purported purchase price for the property was substantially less than fair market value and the purported rents were substantially less than the fair market rentals. Because of the lack of clear precedent, complete assurance cannot be given that the IRS could not successfully assert the existence of prepaid rental income. 12
Additionally, it should be noted that Section 467 of the Code (concerning leases with increasing rents) would apply to the leases because many of the leases provide for rents that increase from one period to the next. Section 467 of the Code provides that in the case of a so-called "disqualified leaseback agreement," rental income must be accrued at a constant rate. If such constant rent accrual were required, the Company could recognize rental income in excess of cash rents and, as a result, may fail to meet the 95% dividend distribution requirement. "Disqualified leaseback agreements" include leaseback transactions where a principal purpose for providing increasing rent under the agreement is the avoidance of federal income tax. Because Section 467 of the Code directs the Treasury to issue regulations providing that rents will not be treated as increasing for tax avoidance purposes where the increases are based upon a fixed percentage of lessee receipts, and because regulations proposed to be effective for "disqualified leaseback agreements" entered into after June 3, 1996 adopt this rule, the additional rent provisions of the leases generally should not cause the leases to be "disqualified leaseback agreements." In addition, the legislative history of Section 467 of the Code indicates that the Treasury should issue regulations under which leases providing for fluctuations in rents by no more than a reasonable percentage from the average rent payable over the term of the lease will be deemed not motivated by tax avoidance, and the proposed regulations permit a 10% fluctuation. Depreciation of Properties. For federal income tax purposes, the Company generally depreciates its real property on a straight-line basis over 40 years and its personal property over 12 years. Failure to Qualify. If the Company fails to qualify for federal income taxation as a REIT in any taxable year, and any potentially applicable relief provisions do not apply, the Company will be subject to tax on its taxable income at regular corporate rates (plus any applicable minimum tax). Distributions to shareholders in any year in which the Company fails to qualify will not be deductible by the Company nor will they be required to be made. In such event, to the extent of the Company's current and accumulated earnings and profits, all distributions to shareholders will be taxable as ordinary income, and subject to certain limitations in the Code will be eligible for the dividends received deduction for corporations. Unless entitled to relief under specific statutory provisions, the Company will also be disqualified from federal income taxation as a REIT for the following four taxable years. It is not possible to state whether in all circumstances the Company would be entitled to statutory relief from such disqualification. Failure to qualify for even one year could result in the Company's incurring substantial indebtedness (to the extent borrowings are feasible) or liquidating substantial investments in order to pay the resulting taxes. Taxation of U.S. Shareholders--Generally. As used herein, the term "U.S. Shareholder" means a beneficial holder of Shares that is for federal income tax purposes (i) a citizen or resident of the United States, (ii) a corporation or partnership (or other entity treated as a corporation or partnership for federal income tax purposes) created or organized in or under the laws of the United States or of any political subdivision thereof (unless otherwise provided by Treasury Regulations), (iii) an estate the income of which is subject to federal income taxation regardless of its source, or (iv) a trust if a court within the United States is able to exercise primary supervision over the administration of the trust and one or more United States persons have the authority to control all substantial decisions of the trust (or certain electing trusts in existence on August 20, 1996 to the extent provided in Treasury Regulations). As used herein, the term "Non-U.S. Shareholder" means a beneficial holder of Shares that is not a U.S. Shareholder. As long as the Company qualifies as a REIT for federal income tax purposes, distributions (including reinvestments pursuant to the Company's dividend reinvestment plan) made to the Company's U.S. Shareholders out of current or accumulated earnings and profits will be taken into account by them as ordinary income (but will not be eligible for the dividends received deduction for corporations). Distributions that are properly designated by the Company as capital gain dividends will be taxed as long-term capital gains (as discussed below) to the extent they do not exceed the Company's actual net capital gain for the taxable year, although corporate U.S. Shareholders may be required to treat up to 20% of any such capital gain dividend as ordinary income pursuant to Section 291 of the Code. For the Company's taxable years commencing on or after January 1, 1998, the Company may elect to retain amounts representing its net capital gain income. In that case, the Company will be taxed at regular corporate capital gains tax rates on such amounts, each U.S. Shareholder will be taxed on its proportionate share of the net capital gains retained by the Company as though such amount were distributed and designated a capital gain dividend, and each such U.S. Shareholder will receive a credit for a proportionate share of the tax paid by the Company. Additionally, each U.S. Shareholder will increase the adjusted basis in its Shares by the excess of the amount of its proportionate share of these net capital gains over its proportionate share of the tax paid by the Company, and both the Company and its corporate U.S. Shareholders will make commensurate adjustments in their 13
respective earnings and profits for federal income tax purposes. If the Company should elect to retain its net capital gain in this fashion, it will notify each U.S. Shareholder of the relevant tax information within 60 days after the close of the Company's taxable year. For certain noncorporate U.S. Shareholders, long-term capital gains taken into account after May 7, 1997 are taxed at varying maximum rates of 20%, 25%, or 28%, depending upon the type of property disposed of and the holding period in such property at the time of disposition. If the Company designates a dividend as a capital gain dividend for any taxable year of the Company ending after May 7, 1997 (or elects to retain a portion of its net capital gain and have such amount treated as a distributed and designated capital gain dividend in the manner described above), the Company may also designate the portion of such capital gain dividend which is taxed to certain noncorporate U.S. Shareholders at the varying maximum rates of 20%, 25%, or 28%, based upon the type and holding period of the property disposed of by the Company. If the Company does not make such a designation, the entire capital gain dividend will be treated as long-term capital gain subject to the maximum 28% rate to the noncorporate U.S. Shareholders (without regard to the period for which the U.S. Shareholder held its Shares). For purposes of computing the Company's earnings and profits, depreciation on real estate is generally computed on a straight-line basis over 40 years. Distributions in excess of current or accumulated earnings and profits will not be taxable to a U.S. Shareholder to the extent that they do not exceed the adjusted basis of the U.S. Shareholder's Shares, but will reduce the U.S. Shareholder's basis in such Shares. To the extent that such distributions exceed the adjusted basis of a U.S. Shareholder's Shares, they will be included in income as long-term capital gain (or short-term capital gain if the shares have been held for not more than one year), with such long-term gain taxed to certain noncorporate U.S. Shareholders at varying maximum rates of 20% or 28% depending upon the U.S. Shareholder's holding period in the Shares. U.S. Shareholders may not include in their respective income tax returns any net operating losses or capital losses of the Company. Dividends declared by the Company in October, November or December of a taxable year to shareholders of record on a date in such month, will be deemed to have been received by such shareholders on December 31, provided the Company actually pays such dividends during the following January. For tax purposes, the Company's dividends paid in 1987, 1988, 1989, 1990, 1991, 1992, 1993, 1994, 1995, 1996 and 1997 aggregated $1.085, $.840, $1.13, $1.16, $1.22, $1.25, $1.29, $1.32, $1.37, $1.41 and $1.45 respectively, of which $.289, $.065, $.332, $.267, $.104, $.218, $.335, $.081, $.161, $.350 and $.252, respectively, represented a return of capital. The sale or exchange of Shares will result in recognition of gain or loss to the U.S. Shareholder in an amount equal to the difference between the amount realized and its adjusted basis in the Shares sold or exchanged. Such a gain or loss will be capital gain or loss, and will be long-term capital gain or loss if the U.S. Shareholder's holding period in the Shares exceeded one year. Long-term capital gains may be taxed to certain noncorporate U.S. Shareholders at varying maximum rates of 20% or 28% depending upon the U.S. Shareholder's holding period in the Shares. In addition, any loss upon a sale or exchange of Shares by a U.S. Shareholder who has held such Shares for not more than six months (after applying certain rules), will generally be treated as a long-term capital loss to the extent of distributions from the Company required to be treated by such U.S. Shareholders as long-term capital gain (including, for this purpose, amounts constructively distributed as long-term capital gain by the Company electing to retain its net capital gain in the manner described above). U.S. Shareholders (other than certain corporations) who borrow funds to finance their acquisition of Shares in the Company could be limited in the amount of deductions allowed for the interest paid on the indebtedness incurred in such an arrangement. Under Section 163(d) of the Code, interest paid or accrued on indebtedness incurred or continued to purchase or carry property held for investment is generally deductible only to the extent of the investor's net investment income. A U.S. Shareholder's net investment income will include dividend distributions and, if an appropriate election is made, capital gain dividend distributions it receives from the Company; however, distributions treated as a nontaxable return of the U.S. Shareholder's basis will not enter into the computation of net investment income. Under Section 469 of the Code, U.S. Shareholders (other than certain corporations) generally will not be entitled to deduct losses from so-called passive activities except to the extent of their income from passive activities. For purposes of these rules, distributions received by a U.S. Shareholder from the Company will not be treated as income from a passive activity and thus will not be available to offset a U.S. Shareholder's passive activity losses. Tax preference and other items which are treated differently for regular and alternative minimum tax purposes are to be allocated between a REIT and its shareholders under regulations which are to be prescribed. It is 14
possible that these regulations would require tax preference items to be allocated to the Company's shareholders with respect to any accelerated depreciation claimed by the Company; however, the Company has not claimed accelerated depreciation with respect to its existing properties. Taxation of Certain Tax-Exempt U.S. Shareholders. In Revenue Ruling 66-106, the IRS ruled that amounts distributed by a REIT to a tax-exempt employees' pension trust did not constitute "unrelated business taxable income," even though the REIT may have financed certain of its activities with acquisition indebtedness. Although Revenue Rulings are interpretive in nature and subject to revocation or modification by the IRS, based upon Revenue Ruling 66-106 and the analysis therein, distributions made by the Company to U.S. Shareholders that are qualified pension plans (including individual retirement accounts) or certain other tax-exempt entities should not constitute unrelated business taxable income, unless such U.S. Shareholder has financed the acquisition of its Shares with "acquisition indebtedness" within the meaning of the Code, or the Shares are otherwise used in an unrelated trade or business conducted by the U.S. Shareholder. Special rules apply to certain tax-exempt pension trusts (including so-called 401(k) plans but excluding individual retirement accounts or government pension plans) that own more than 10% by value of a "pension-held REIT" at any time during a taxable year commencing after December 31, 1993. Such a pension trust may be required to treat a certain percentage of all dividends received from the pension-held REIT during the year as unrelated business taxable income. Such percentage is equal to the ratio of the pension-held REIT's gross income (less direct expenses related thereto) derived from the conduct of unrelated trades or businesses (determined as if the pension-held REIT were a tax-exempt pension fund), to the pension-held REIT's gross income (less direct expenses related thereto) from all sources, except that such percentage shall be deemed to be zero unless it would otherwise equal or exceed 5%. A REIT will be treated as a pension-held REIT only if (i) the REIT is "predominantly held" by tax-exempt pension trusts, and (ii) the REIT would otherwise fail to satisfy the "closely held" ownership conditiondiscussed above if the stock or beneficial interests in the REIT held by such tax-exempt pension trusts were viewed as held by such tax-exempt pension trusts rather than their respective beneficiaries. A REIT is predominantly held by tax-exempt pension trusts if at least one tax-exempt pension trust holds more than 25% by value of the REIT's stock or beneficial interests, or if one or more tax-exempt pension trusts (each owning more than 10% by value of the REIT's stock or beneficial interests) own in the aggregate more than 50% by value of the REIT's stock or beneficial interests. Given the restrictions in its Declaration regarding ownership of its Shares, the Company believes that it has not been, and expects that it will not be, a pension-held REIT. However, because the Shares of the Company will be publicly traded, no assurance can be given that the Company will not become a pension-held REIT. Taxation of Non-U.S. Shareholders. The rules governing the federal income taxation of Non-U.S. Shareholders (generally, nonresident alien individuals, foreign corporations, foreign partnerships, and foreign trusts and estates) are highly complex, and the following discussion is intended only as a summary of such rules. Non- U.S. Shareholders should consult with their own tax advisors to determine the impact of federal, state, local, and foreign tax laws, including any reporting requirements, with respect to their investment in the Company. In general, a Non-U.S. Shareholder will be subject to regular federal income tax in the same manner as a U.S. Shareholder with respect to its investment in Shares if such investment is "effectively connected" with the Non-U.S. Shareholder's conduct of a trade or business in the United States. In addition, a corporate Non-U.S. Shareholder that receives income that is (or is deemed) effectively connected with a trade or business in the United States may also be subject to the 30% branch profits tax under Section 884 of the Code, which is payable in addition to regular federal corporate income tax. The following discussion addresses only Non-U.S. Shareholders whose investment in Shares is not effectively connected with the conduct of a trade or business in the United States. A distribution by the Company to a Non-U.S. Shareholder that is not attributable to gain from the sale or exchange by the Company of a United States real property interest and that is not designated by the Company as a capital gain dividend will be treated as an ordinary income dividend to the extent that it is made out of current or accumulated earnings and profits. Generally, such a dividend will be subject to federal income withholding tax on the gross amount thereof at the rate of 30%, or such lower rate that may be specified by treaty if the Non-U.S. Shareholder has in the manner prescribed by the IRS demonstrated to the Company its entitlement to treaty benefits. A distribution of cash in excess of the Company's earnings and profits will be treated first as a nontaxable return of capital that will reduce a Non-U.S. Shareholder's basis in its Shares (but not below zero) and then as gain from the disposition of such Shares, the tax treatment of which is discussed below. A distribution in excess of the Company's earnings and profits may be subject to 30% (or lower treaty rate) withholding if at the time of the distribution it cannot be determined whether the distribution will be in an amount in excess of the Company's current and 15
accumulated earnings and profits. If it is subsequently determined that such distribution is, in fact, in excess of current and accumulated earnings and profits, the Non-U.S. Shareholder may seek a refund from the IRS. The Company expects to withhold federal income withholding tax at the rate of 30% on the gross amount of any distributions on Shares made to a Non-U.S. Shareholder unless a lower tax treaty applies and the required IRS form evidencing eligibility for that reduced rate is filed with the Company. For any year in which the Company qualifies as a REIT, distributions by the Company that are attributable to gain from the sale or exchange of a United States real property interest are taxed to a Non-U.S. Shareholder as if such distributions were gains "effectively connected" with a trade or business in the United States conducted by the Non-U.S. Shareholder. Accordingly, a Non-U.S. Shareholder will be taxed on such amounts at the normal capital gain rates applicable to a U.S. Shareholder (subject to any applicable alternative minimum tax and a special alternative minimum tax in the case of nonresident alien individuals). Such distributions may also be subject to a 30% branch profits tax under Section 884 of the Code in the hands of a corporate Non-U.S. Shareholder that is not entitled to treaty relief or exemption. The Company will be required to withhold from distributions to Non-U.S. Shareholders, and remit to the IRS, 35% of the maximum amount of any distribution that could be designated as a capital gain dividend. In addition, for purposes of this withholding rule, if the Company designates prior distributions as capital gain distributions, then subsequent distributions, up to the amount of such prior distributions, will be treated as capital gain dividends. The amount of any tax withheld is creditable against the Non-U.S. Shareholder's federal income tax liability, and any amount of tax withheld in excess of that tax liability may be refunded provided that an appropriate claim for refund is filed with the IRS. Tax treaties may reduce the Company's withholding obligations. Under certain treaties, however, rates below 30% generally applicable to dividends from United States corporations may not apply to dividends from a REIT. If the amount of tax withheld by the Company with respect to a distribution to a Non-U.S. Shareholder exceeds such shareholder's federal income tax liability with respect to such distribution, the Non-U.S. Shareholder may file for a refund of such excess from the IRS. In this regard, it should be noted that the 35% withholding tax rate on capital gain dividends corresponds to the maximum income tax rate applicable to corporate Non-U.S. Shareholders but is higher than the 20%, 25%, and 28% maximum rates on capital gains generally applicable to noncorporate Non-U.S. Shareholders. Treasury Regulations issued on October 6, 1997 (the "New Regulations") alter the withholding rules on dividends paid to a Non-U.S. Shareholder, generally effective with respect to dividends paid after December 31, 1998. Under the New Regulations, to obtain a reduced rate of withholding under an income tax treaty, a Non-U.S. Shareholder generally will be required to provide an Internal Revenue Service Form W-8 certifying such Non-U.S. Shareholder's entitlement to benefits under the treaty. The New Regulations also provide special rules to determine whether, for purposes of determining the applicability of a tax treaty, dividends paid to a Non-U.S. Shareholder that is an entity should be treated as paid to the entity or to those holding an interest in that entity, and whether such entity or such holders in the entity are entitled to benefits under the tax treaty. The New Regulations also alter the information reporting and backup withholding rules applicable to Non- U.S. Shareholders and, among other things, provide certain presumptions under which a Non-U.S. Shareholder is subject to backup withholding and information reporting until the Company receives certification from such shareholder of its Non-U.S. Shareholder status. If the Shares fail to constitute a "United States real property interest" within the meaning of Section 897 of the Code, gain on sale of the Shares by a Non-U.S. Shareholder generally will not be subject to federal income taxation unless (i) investment in the Shares is effectively connected with the Non-U.S. Shareholder's United States trade or business, in which case, as discussed above, the Non-U.S. Shareholder would be subject to the same treatment as U.S. Shareholders on such gain, or (ii) the Non-U.S. Shareholder is a nonresident alien individual who was present in the United States for 183 days or more during the taxable year, in which case the nonresident alien individual will be subject to a 30% tax on such gain. The Shares will not constitute a United States real property interest if the Company is a "domestically controlled REIT." A domestically controlled REIT is a REIT in which at all times during the preceding five-year period less than 50% in value of its shares is held directly or indirectly by foreign persons. It is believed that the Company has been and will continue to be a domestically controlled REIT, and therefore that the sale of Shares by a Non-U.S. Shareholder will not be subject to federal income taxation. However, because the Shares are publicly traded, no assurance can be given that the Company has been and will continue to be a domestically controlled REIT. If the Company is not a domestically controlled REIT, whether a Non-U.S. Shareholder's gain on sale of Shares would be subject to federal income tax as a sale of a United States real property interest would depend upon whether the Shares were "regularly traded" (as defined by applicable Treasury Regulations) on an established 16
securities market (e.g., the New York Stock Exchange, on which the Shares are listed) and upon the size of the selling Non-U.S. Shareholder's interest in the Company. If the gain on the sale of the Shares were subject to federal income taxation, the Non-U.S. Shareholder would be subject to the same treatment as a U.S. Shareholder with respect to such gain (subject to applicable alternative minimum tax and a special alternative minimum tax in the case of nonresident alien individuals). In any event, a purchaser of Shares from a Non-U.S. Shareholder will not be required to withhold on the purchase price if the purchased Shares are "regularly traded" on an established securities market or if the Company is a domestically controlled REIT. Otherwise, the purchaser of Shares may be required to withhold 10% of the purchase price paid to the Non-U.S. Shareholder and to remit such amount to the IRS. Shares owned or treated as owned by an individual who is not a citizen or resident (as defined for United States federal estate tax purposes) of the United States at the time of death will be includable in the individual's gross estate for United States federal estate tax purposes unless an applicable estate tax treaty provides otherwise. Backup Withholding and Information Reporting Requirements. The Company will report to its U.S. Shareholders and to the IRS the amount of dividends paid during each calendar year and the amount of tax withheld, if any. Under the backup withholding rules, a U.S. Shareholder may be subject to backup withholding at the rate of 31% with respect to dividends paid unless the U.S. Shareholder (a) is a corporation or comes within certain other exempt categories and, when required, demonstrates that fact or (b) provides a taxpayer identification number, certifies as to no loss of exemption from backup withholding rules and otherwise complies with applicable requirements of the backup withholding rules. A U.S. Shareholder that does not provide the Company with its correct taxpayer identification number may be subject to penalties imposed by the IRS. In addition, the Company may be required to withhold a portion of capital gain distributions to any U.S. Shareholder that fails to certify its non-foreign status to the Company. Any amounts withheld under the foregoing rules will be creditable against the U.S. Shareholder's federal income tax liability provided that the required information is furnished to the IRS. The Company will report to its Non-U.S. Shareholders and to the IRS the amount of dividends paid during each calendar year and the amount of tax withheld, if any. These information reporting requirements apply regardless of whether withholding was reduced or eliminated by an applicable tax treaty. Copies of these information returns may also be made available under the provisions of a specific treaty or agreement to the tax authorities in the country in which the Non-U.S. Shareholder resides. As discussed above, withholding tax rates of 30% and 35% may apply to distributions on Shares to Non-U.S. Shareholders, and the New Regulations will when effective alter the information reporting and withholding rules applicable to Non-U.S. Shareholders. Among other things, the New Regulations provide certain presumptions under which a Non-U.S. Shareholder would be subject to backup withholding and information reporting until the Company receives certification from such shareholder of its Non-U.S. Shareholder status. As noted, the New Regulations are generally effective with respect to dividends paid after December 31, 1998. The payment of the proceeds from the disposition of Shares to or through the United States office of a broker will generally be subject to information reporting and backup withholding at a rate of 31% unless the owner, under penalties of perjury, certifies, among other things, its status as a Non-U.S. Shareholder, or otherwise establishes an exemption. The payment of the proceeds from the disposition of Shares to or through a non-United States office of a broker generally will not be subject to backup withholding and information reporting. In the case of proceeds from a disposition of Shares paid to or through a non-United States office of a United States broker or paid to or through a non-United States office of a non-United States broker that is (i) a "controlled foreign corporation" for federal income tax purposes or (ii) a person 50% or more of whose gross income from all sources for a certain three-year period was effectively connected with a United States trade or business, (a) backup withholding will not apply unless the broker has actual knowledge that the owner is not a Non-U.S. Shareholder, and (b) information reporting will not apply if the broker has documentary evidence in its files that the beneficial owner is a Non-U.S. Shareholder unless the broker has actual knowledge to the contrary. Under the New Regulations (generally effective for payments made after December 31, 1998), in the case of proceeds from a disposition of Shares paid to or though a non-United States office of a United States broker or paid to or through a non-United States office of a non-United States broker that is (i) a "controlled foreign corporation" for federal income tax purposes, (ii) a person 50% or more of whose gross income from all sources for a certain three-year period was effectively connected with a United States trade or business, (iii) a foreign partnership with one or more partners who are United States persons and who in the aggregate hold more than 50% of the income or capital interest in the partnership, or (iv) a foreign partnership engaged in the conduct of a trade or business in the United States, (a) backup withholding will not apply unless the broker has actual knowledge that the owner is not a Non-U.S. Shareholder, and (b) information reporting will not apply if the Non-U.S. Shareholder certifies its status as a Non- 17
U.S. Shareholder and further certifies that it has not been, and at the time the certificate is furnished reasonably expects not to be, present in the United States for a period aggregating 183 days or more during each calendar year to which the certification pertains. Any amounts withheld from a payment to a Non-U.S. Shareholder will generally be refunded (or credited against the Non-U.S. Shareholder's United States federal income tax liability, if any), provided that the required information is furnished to the IRS. Other Tax Considerations. Holders of Shares should recognize that the present federal income tax treatment of the Company may be modified by future legislative, judicial, or administrative actions at any time, which may be retroactive in effect, and, as a result, any such action or decision may affect investments and commitments previously made. The rules dealing with federal income taxation are constantly under review by persons involved in the legislative process and by the IRS and the Treasury Department, resulting in statutory changes as well as promulgation of new regulations, revisions to existing regulations, and revised interpretations of established concepts. No prediction can be made as to the likelihood of passage of any new tax legislation or other provisions either directly or indirectly affecting the Company or its shareholders. Revisions in federal income tax laws and interpretations thereof could adversely affect the tax consequences of investment in the Shares. The Company and its shareholders may also be subject to state or local taxation in various state or local jurisdictions, including those in which it or they transact business or reside. The state and local tax treatment of the Company and its shareholders may not conform to the federal income tax consequences discussed above. Consequently, holders should consult their own tax advisors regarding the effect of state and local tax laws on an investment in the Shares. THE FOREGOING IS A SUMMARY DESCRIPTION OF CERTAIN MATERIAL FEDERAL INCOME TAX CONSEQUENCES OF THE TAXATION OF THE COMPANY AND ITS SHAREHOLDERS, WITHOUT CONSIDERATION OF THE PARTICULAR FACTS AND CIRCUMSTANCES OF ANY PARTICULAR SHAREHOLDER. IN PARTICULAR, IT DOES NOT ADDRESS THE STATE, LOCAL OR FOREIGN TAX ASPECTS OF THE TAXATION OF THE COMPANY AND ITS SHAREHOLDERS. THE DISCUSSION IS BASED ON CURRENTLY EXISTING PROVISIONS OF THE CODE, EXISTING AND PROPOSED TREASURY REGULATIONS THEREUNDER AND CURRENT ADMINISTRATIVE RULINGS AND COURT DECISIONS. ALL OF THE FOREGOING ARE SUBJECT TO CHANGE AND ANY SUCH CHANGE COULD AFFECT THE CONTINUING VALIDITY OF THE DISCUSSION. THE COMPANY AND ITS SHAREHOLDERS MAY ALSO BE SUBJECT TO STATE OR LOCAL TAXATION IN VARIOUS STATE OR LOCAL JURISDICTIONS, INCLUDING THOSE IN WHICH IT OR THEY TRANSACT BUSINESS OR RESIDE. EACH HOLDER OF SHARES OF THE COMPANY SHOULD CONSULT HIS OR HER OWN TAX ADVISOR AS TO THE SPECIFIC TAX CONSEQUENCES OF THE TAXATION OF THE COMPANY AND ITS SHAREHOLDERS, INCLUDING THE APPLICATION AND EFFECT OF FEDERAL, STATE, LOCAL AND FOREIGN TAX LAWS. ERISA PLANS, KEOGH PLANS AND INDIVIDUAL RETIREMENT ACCOUNTS General Fiduciary Obligations. Fiduciaries of a pension, profit-sharing or other employee benefit plan subject to Title I of the Employee Retirement Income Security Act of 1974 ("ERISA") ("ERISA Plan") must consider whether their investment in the Company's Shares satisfies the diversification requirements of ERISA, whether the investment is prudent in light of possible limitations on the marketability of the Shares, whether such fiduciaries have authority to acquire such Shares under the appropriate governing instrument and Title I of ERISA, and whether such investment is otherwise consistent with their fiduciary responsibilities. Any ERISA Plan fiduciary should also consider ERISA's prohibition on improper delegation of control over or responsibility for "plan assets." Trustees and other fiduciaries of an ERISA plan may incur personal liability for any loss suffered by the plan on account of a violation of their fiduciary responsibilities. In addition, such fiduciaries may be subject to a civil penalty of up to 20% of any amount recovered by the plan on account of such a violation (the "Fiduciary Penalty"). Fiduciaries of any Individual Retirement Account ("IRA") Keogh Plan or other qualified retirement plan not subject to Title I of ERISA because it does not cover common law employees ("Non-ERISA Plan") should consider that such an IRA or non-ERISA Plan may only make investments that are authorized by the appropriate governing instrument. Fiduciary shareholders should consult their own legal advisers if they have any concern as to whether the investment is inconsistent with any of the foregoing criteria. 18
Prohibited Transactions. Fiduciaries of ERISA Plans and persons making the investment decision for an IRA or other Non-ERISA Plan should also consider the application of the prohibited transaction provisions of ERISA and the Code in making their investment decision. Sales and certain other transactions between an ERISA Plan, IRA, or other Non-ERISA Plan and certain persons related to it are prohibited transactions. The particular facts concerning the sponsorship, operations and other investments of an ERISA Plan, IRA, or other Non-ERISA Plan may cause a wide range of other persons to be treated as disqualified persons or parties in interest with respect to it. A prohibited transaction, in addition to imposing potential personal liability upon fiduciaries of ERISA Plans, may also result in the imposition of an excise tax under the Code or a penalty under ERISA upon the disqualified person or party in interest with respect to the ERISA or Non-ERISA Plan or IRA. If the disqualified person who engages in the transaction is the individual on behalf of whom an IRA is maintained (or his beneficiary), the IRA may lose its tax-exempt status and its assets may be deemed to have been distributed to such individual in a taxable distribution (and no excise tax will be imposed) on account of the prohibited transaction. Fiduciary shareholders should consult their own legal advisers if they have any concern as to whether the investment is a prohibited transaction. Special Fiduciary and Prohibited Transactions Considerations. The Department of Labor ("DOL"), which has certain administrative responsibility over ERISA Plans as well as over IRAs and other Non-ERISA Plans, has issued a regulation defining "plan assets." The regulation generally provides that when an ERISA or Non-ERISA Plan or IRA acquires a security that is an equity interest in an entity and that security is neither a "publicly offered security" nor a security issued by an investment company registered under the Investment Company Act of 1940, the ERISA or Non-ERISA Plan's or IRA's assets include both the equity interest and an undivided interest in each of the underlying assets of the entity, unless it is established either that the entity is an operating company or that equity participation in the entity by benefit plan investors is not significant. The regulation defines a publicly offered security as a security that is "widely held," "freely transferable" and either part of a class of securities registered under the Securities Exchange Act of 1934, or sold pursuant to an effective registration statement under the Securities Act of 1933 (provided the securities are registered under the Securities Exchange Act of 1934 within 120 days after the end of the fiscal year of the issuer during which the offering occurred). The Shares have been registered under the Securities Exchange Act of 1934. The regulation provides that a security is "widely held" only if it is part of a class of securities that is owned by 100 or more investors independent of the issuer and of one another. However, a security will not fail to be "widely held" because the number of independent investors falls below 100 subsequent to the initial public offering as a result of events beyond the issuer's control. The regulation provides that whether a security is "freely transferable" is a factual question to be determined on the basis of all relevant facts and circumstances. The regulation further provides that, where a security is part of an offering in which the minimum investment is $10,000 or less, certain restrictions ordinarily will not, alone or in combination, affect a finding that such securities are freely transferable. The restrictions on transfer enumerated in the regulation as not affecting that finding include: any restriction on or prohibition against any transfer or assignment which would result in a termination or reclassification of the Company for Federal or state tax purposes, or would otherwise violate any state or Federal law or court order; any requirement that advance notice of a transfer or assignment be given to the Company and any requirement that either the transferor or transferee, or both, execute documentation setting forth representations as to compliance with any restrictions on transfer which are among those enumerated in the regulation as not affecting free transferability, including those described in the preceding clause of this sentence; any administrative procedure which establishes an effective date, or an event prior to which a transfer or assignment will not be effective; and any limitation or restriction on transfer or assignment which is not imposed by the issuer or a person acting on behalf of the issuer. The Company believes that the restrictions imposed under the Declaration on the transfer of Shares do not result in the failure of the Shares to be "freely transferable." Furthermore, the Company believes that at present there exist no other facts or circumstances limiting the transferability of the Shares which are not included among those enumerated as not affecting their free transferability under the regulation, and the Company does not expect or intend to impose in the future (or to permit any person to impose on its behalf) any limitations or restrictions on transferwhich would not be among the enumerated permissible limitations or restrictions. However, the final regulation only establishes a presumption in favor of a finding of free transferability, and no guarantee can be given that the DOL or the Treasury Department will not reach a contrary conclusion. 19
Assuming that the Shares will be "widely held" and that no other facts and circumstances exist which restrict transferability of the Shares, the Company has received an opinion of counsel that the Shares should not fail to be "freely transferable" for purposes of the regulation due to the restrictions on transfer of the Shares under the Declaration and that under the regulation the Shares are publicly offered securities and the assets of the Company will not be deemed to be "plan assets" of any ERISA Plan, IRA or other Non-ERISA Plan that invests in the Shares. If the assets of the Company are deemed to be plan assets under ERISA, (i) the prudence standards and other provisions of Part 4 of Title I of ERISA would be applicable to investments made by the Company; (ii) the person or persons having investment discretion over the assets of ERISA Plans which invest in the Company would be liable under the aforementioned Part 4 of Title I of ERISA for investments made by the Company which do not conform to such ERISA standards unless the Advisor registers as an investment adviser under the Investment Advisers Act of 1940 and certain other conditions are satisfied; and (iii) certain transactions that the Company might enter into in the ordinary course of its business and operation might constitute "prohibited transactions" under ERISA and the Code. Item 2. Properties General. At December 31, 1997, approximately 14% of the Company's total investments were in long-term care facilities, 32% were in medical and other office buildings and clinics, 20% were in government office buildings, 21% were in retirement and assisted living communities, 8% were in nursing homes with subacute services and 5% were in hotels through the Company's equity investment in HPT. The Company believes that the physical plant of each of the facilities in which it has invested is suitable and adequate for its present and any currently proposed uses. At December 31, 1997, the Company had real estate investments totaling $2.1 billion (at cost) in 217 properties that were leased to or operated by over approximately 350 tenants or mortgagors, plus a 10.3% investment of approximately $111.1 million (carrying value) through HPT in 119 additional properties. 20
The following table summarizes certain information about the Properties as of December 31, 1997. All dollar figures are in thousands. <TABLE> <CAPTION> REAL ESTATE OWNED: Number of Number of Investment Minimum Location Facilities Beds/Units Amount Rent/Interest (1) - ---------------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> Retirement and Assisted Living Facilities: Arizona 3 481 $ 36,642 $ 3,061 California 1 402 31,791 3,319 Florida 5 1,527 131,989 9,986 Illinois 2 704 98,743 7,490 Maryland 1 351 33,080 4,054 New York 1 103 10,700 1,017 South Dakota 1 59 1,014 127 Texas 1 145 12,411 1,213 Virginia 3 848 57,662 5,817 Washington 1 200 14,350 1,363 Long-Term Care Facilities: Arizona 3 320 6,220 821 California 9 1,140 27,105 4,716 Colorado 9 1,011 34,351 4,561 Connecticut 5 867 42,821 5,184 Georgia 4 401 12,307 1,352 Illinois 1 230 2,711 452 Iowa 7 375 8,205 941 Kansas 1 59 1,320 157 Missouri 2 215 3,788 572 Nebraska 1 80 1,934 229 New Hampshire 1 108 3,689 430 New Jersey 1 150 13,007 1,418 Ohio 2 400 9,872 1,283 South Dakota 2 302 6,575 855 Vermont 8 808 29,766 3,316 Washington 1 143 5,193 642 Wisconsin 7 920 31,680 5,118 Wyoming 3 243 7,247 825 Long-Term Care Facilities with Subacute Services: Connecticut 4 660 51,290 6,470 Massachusetts 5 762 82,059 10,044 Pennsylvania 1 120 15,598 1,951 Medical and Other Office Buildings and Clinics: California 13 -- 179,949 20,324 Colorado 1 -- 14,403 1,435 District of Columbia 2 -- 44,530 6,949 Maryland 1 -- 12,517 2,875 Massachusetts 25 -- 120,957 14,446 New York 3 -- 130,831 14,306 Pennsylvania 6 -- 108,799 13,740 Rhode Island 1 -- 8,100 750 Texas 5 -- 78,562 9,242 Virginia 1 -- 5,757 997 Government Office Buildings: Alaska 1 -- 1,000 490 Arizona 3 -- 21,628 2,692 California 4 -- 65,141 8,480 Colorado 1 -- 3,680 1,361 District of Columbia 2 -- 100,594 13,959 21
<CAPTION> Number of Number of Investment Minimum Location Facilities Beds/Units Amount Rent/Interest (1) - ---------------------------------------------------------------------------------------------------------------------------------- <S> <C> <C> <C> <C> Georgia 1 -- 2,874 447 Kansas 1 -- 5,701 1,432 Maryland 4 -- 102,064 13,052 Missouri 1 -- 7,636 934 New Mexico 2 -- 10,813 1,255 New York 1 -- 23,317 2,684 Oklahoma 1 -- 24,426 3,062 Texas 2 -- 16,411 3,500 Virginia 1 -- 18,284 2,118 Washington 2 -- 21,005 2,421 West Virginia 1 -- 4,792 624 Wyoming 1 -- 10,132 1,250 --------------------------------------------------------------------------- Total Real Estate 183 14,134 $1,969,023 $233,609 --------------------------------------------------------------------------- MORTGAGE AND NOTE INVESTMENTS: Retirement and Assisted Living Facilities: California 3 389 $ 8,408 $ 978 Florida 1 248 5,000 525 North Carolina 3 345 11,472 1,381 Long-Term Care Facilities: California 1 299 6,242 821 Kansas 2 177 523 166 Michigan 1 153 4,239 524 Nebraska 9 610 8,799 871 North Carolina 3 294 4,472 489 Ohio* 2 338 7,840 1,095 Pennsylvania 1 120 2,890 358 Texas 4 390 5,251 480 Wisconsin 2 339 12,349 1,480 Long-Term Care Facilities with Subacute Services: Connecticut -- -- 2,365 224 Louisiana 1 118 19,185 2,293 Michigan 1 189 5,028 622 Medical Office Buildings: California* -- -- 225 19 --------------------------------------------------------------------------- Total Mortgages and Notes 34 4,009 $104,288 $ 12,326 --------------------------------------------------------------------------- <FN> * Amounts represent or include notes receivable related to improvements to real estate owned. (1) Amounts represent obligations due to the Company for properties owned during the 12 months ended December 31, 1997 and annualized obligations due to the Company for properties acquired during 1997, at December 31, 1997. </FN> </TABLE> Item 3. Legal Proceedings As previously disclosed, in early 1995 the Company commenced an action in Florida state court to collect on a secured indemnity agreement from a former tenant and mortgagor, together with certain related parties (collectively, the "Former Tenant"). In May 1995 the Former Tenant filed a counterclaim and third-party complaint against the Company and others including Messrs. Martin and Portnoy, Advisor and Sullivan & Worcester LLP, seeking, among other things, to set aside the indemnity agreement and to recover substantial damages. After a Massachusetts state court ordered the dispute to arbitration and a Florida court stayed further proceedings pending arbitration, the Former Tenant brought a separate action against the Company in the Federal District Court in Massachusetts and realleged many of the same allegations made in the counterclaims and third-party complaints 22
previously brought by them in response to the Company's original action, and adding allegations of violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder and violations of 18 U.S.C ss. 1962 (RICO). In September 1996, the Federal Court in Massachusetts ordered the case brought by the Former Tenant dismissed and all disputes between the Former Tenant and the Company referred to arbitration. The arbitration is proceeding. The amounts of damages claimed by the Former Tenant and creditors or assignees of the former Tenant are material. The Company is pursuing its indemnity claims against the Former Tenant and is defending the claims of the Former Tenant in the arbitration proceedings. The Company intends to defend itself in related actions brought and which may be brought, to attempt to consolidate these cases in the pending arbitration proceeding or otherwise to pursue such claims and rights which it may have. The outcome of these pending claims and proceedings cannot be predicted. The Declaration of Trust provides that Trustees, officers, employees and agents of the Company shall be indemnified by the Company against any losses, judgments, liabilities, expenses and amounts paid in settlement of any claims asserted against them by reason of their status, provided that such claims were not the result of willful misfeasance, bad faith, gross negligence or reckless disregard of duty. Were Messrs. Martin and Portnoy to be held liable in the proceedings described above, they may therefore have a claim for indemnification from the Company. Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of shareholders during the fourth quarter of the year covered by this Annual Report on Form 10-K. PART II Item 5. Market for Registrant's Common Stock and Related Stockholder Matters The Company's Shares are traded on the New York Stock Exchange (symbol: HRP). The following table sets forth for the periods indicated the high and low sale prices for the Shares as reported in the New York Stock Exchange Composite Transactions reports. High Low ---- --- 1996 First Quarter $ 17 3/8 16 Second Quarter 17 7/8 16 3/8 Third Quarter 18 1/8 16 3/8 Fourth Quarter 19 1/4 17 3/4 1997 First Quarter 20 5/8 18 Second Quarter 19 17 3/4 Third Quarter 19 1/8 17 5/8 Fourth Quarter 20 5/16 18 9/16 The closing price of the Shares on the New York Stock Exchange on March 5, 1998 was $19.6875. As of January 22, 1998, there were approximately 5,711 holders of record of the Shares and the Company estimates that as of such date there were in excess of 120,000 beneficial owners of the Shares. 23
Dividends declared with respect to each period for the two most recent fiscal years and the amount of such dividends and the respective annualized rates are set forth in the following table. Dividend Annualized Per Share Dividend Rate --------- ------------- 1996 First Quarter $.35 $1.40 Second Quarter .35 1.40 Third Quarter .36 1.44 Fourth Quarter .36 1.44 1997 First Quarter .36 1.44 Second Quarter .36 1.44 Third Quarter .37 1.48 Fourth Quarter .37 1.48 All dividends declared have been paid. The Company intends to continue to declare and pay future dividends on a quarterly basis. In order to qualify for the beneficial tax treatment accorded to REITs by Sections 856 through 860 of the Code, the Company is required to make distributions to shareholders which annually will be at least 95% of the Company's "real estate investment trust taxable income" (as defined in the Code). All distributions will be made by the Company at the discretion of the Trustees and will depend on the earnings of the Company, the cash flow available for distribution, the financial condition of the Company and such other factors as the Trustees deems relevant. The Company has in the past distributed, and intends to continue to distribute, substantially all of its "real estate investment trust taxable income" to its shareholders. 24
Item 6. Selected Financial Data Set forth below are selected financial data for the Company for the periods and dates indicated. This data should be read in conjunction with, and is qualified in its entirety by reference to, the financial statements and accompanying notes included in Item 7 of the Company's Current Report on Form 8-K dated February 27, 1998. Amounts are in thousands, except per Share information. <TABLE> <CAPTION> Income Statement Data: Year Ended December 31, ------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> Total revenues $208,863 $120,183 $113,322 $ 86,683 $ 56,485 Income before gain (loss) on sale of properties and extraordinary items 112,204 77,164 61,760 57,878 37,738 Income before extraordinary items 115,102 77,164 64,236 51,872 37,738 Net income 114,000 73,254 64,236 49,919 33,417 Funds from operations (1) 146,312 99,106 84,638 71,851 46,566 Dividends declared (2) 144,271 94,299 83,954 76,317 44,869 Basic earnings per common share amounts: Income before gain (loss) on sale of properties and extraordinary items 1.22 1.16 1.04 1.10 1.10 Income before extraordinary items 1.25 1.16 1.08 .98 1.10 Net income 1.24 1.11 1.08 .95 .97 Funds from operations (1) 1.59 1.50 1.43 1.36 1.35 Dividends declared (2) 1.46 1.42 1.38 1.33 1.30 Weighted average shares outstanding 92,168 66,255 59,227 52,738 34,407 <CAPTION> Balance Sheet Data: At December 31, ----------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ----------------------------------------------------------------------------------- <S> <C> <C> <C> <C> <C> Real estate properties, at cost $1,969,023 $1,005,739 $ 778,211 $ 673,083 $ 384,811 Real estate mortgages and notes 104,288 150,205 141,307 133,477 157,281 Investment in HPT 111,134 103,062 99,959 -- -- Total assets 2,135,963 1,229,522 999,677 840,206 527,662 Total indebtedness 787,879 492,175 269,759 216,513 73,000 Total shareholders' equity 1,266,260 708,048 685,592 602,039 441,135 <FN> (1) The Company's Funds From Operations ("FFO") represents net income (computed in accordance with generally accepted accounting principals ("GAAP")), before gain or loss on sale of properties and extraordinary items, depreciation and other non-cash items and includes HRP's pro rata share of HPT's FFO. Management considers FFO to be a measure of the financial performance of an equity REIT that provides a relevant basis for comparison among REITs. FFO does not represent cash flow from operating activities (as determined in accordance with GAAP) and should not be considered as an alternative to net income as an indicator of the Company's financial performance or to cash flows as a measure of liquidity. (2) Amounts represent dividends declared with respect to the periods shown. Distributions in excess of net income generally constitute a return of capital. </FN> </TABLE> Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The information required by this item is incorporated herein by reference to the section entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 5 of the Company's Current Report on Form 8-K dated February 27, 1998. 25
Item 8. Financial Statements and Supplementary Data The information required by this item is incorporated herein by reference to the "consolidated financial statements of Health and Retirement Properties Trust included in Item 7 of the Company's Current Report on Form 8-K dated February 27, 1998. The financial statements and financial statement schedules for Marriott are incorporated by reference to Marriott's Annual Report on Form 10-K for the year ended January 2, 1998, Commission File No. 1-12188. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not applicable PART III The information in Part III (Items, 10, 11, 12 and 13) is incorporated by reference to the Company's definitive Proxy Statement, which will be filed not later than 120 days after the end of the Company's fiscal year. PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K (a) Index to Financial Statements and Financial Statement Schedules <TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST <S> <C> Page 1) The following consolidated financial statements of Health and Retirement Properties Trust are incorporated by reference to the Company's Current Report on Form 8-K dated February 27, 1998, page references are to such Current Report: Report of Ernst & Young LLP, Independent Auditors F-1 Report of Arthur Andersen LLP, Independent Public Accountants F-2 Consolidated Balance Sheets as of December 31, 1997 and 1996 F-3 Consolidated Statements of Income for the years ended December 31, 1997, 1996 and 1995 F-4 Consolidated Statements of Shareholders' Equity for the years ended December 31, 1997, 1996, and 1995 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996, and 1995 F-6 Notes to Consolidated Financial Statements F-8 2) The following schedules are filed herewith: III - Real Estate and Accumulated Depreciation S-1 IV - Mortgage Loans on Real Estate S-8 </TABLE> All other schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions, or are inapplicable, and therefore have been omitted. 3) Exhibits: 3.1 Conformed copy of Amended and Restated Declaration of Trust as amended by the amendment approved by the shareholders June 28, 1996 and filed with the Maryland Department of Assessments and Taxation on July 9, 1996. (incorporated by reference to the Company's Current Report on Form 8-K, dated July 10, 1996) 3.2 Amendment, effective March 3, 1997, to the Company's Amended and Restated Declaration of Trust providing for an increase in the authorized common shares of beneficial interest, $.01 par value per share, from 100,000,000 to 125,000,000. (incorporated by reference to the Company's Current Report on Form 8-K, dated March 3, 1997) 26
3.3 Articles Supplementary to the Company's Amended and Restated Declaration of Trust, as further amended, relating to the Company's junior Participating Preferred Shares effective May 14, 1997. (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997) 3.4 Amended and Restated Bylaws. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 4.1 Rights Agreement dated October 17, 1994 between the Company and State Street Bank and Trust Company, as Rights Agent (including the form of Articles Supplementary relating to the Junior Participating Preferred Shares annexed as an exhibit thereto). (incorporated by reference to the Company's Registration Statement on Form 8-A dated October 24, 1994) 4.2 Form of Series B Note. (incorporated by reference to the Company's Registration Statement on Form 8- A dated July 11, 1994) 4.3 Indenture, dated as of June 1, 1994, between the Company and Shawmut Bank, N.A. (incorporated by reference to the Company's Registration Statement on Form 8-A dated July 11, 1994) 4.4 Supplemental Indenture, dated as of June 29, 1994, between the Company and Shawmut Bank, N.A. (incorporated by reference to the Company's Registration Statement on Form 8-A dated July 11, 1994) 4.5 Indenture, dated as of September 20, 1996, between the Company and Fleet National Bank ("Fleet"), as trustee. (incorporated by reference to the Company's Registration Statement on Form S-3, File No. 333- 02863) 4.6 First Supplemental Indenture, dated as of October 7, 1996, between the Company and Fleet, as trustee, relating to the Company's 7.5% Convertible Subordinated Debentures, due 2003, Series A, including form thereof. (incorporated by reference to the Company's Current Report on Form 8-K dated October 7, 1996) 4.7 Second Supplemental Indenture, dated as of October 7, 1996, between the Company and Fleet, as trustee, relating to the Company's 7.5% Convertible Subordinated Debentures, due 2003, Series B, including form thereof. (incorporated by reference to the Company's Current Report on Form 8-K dated October 7, 1996) 4.8 Third Supplemental Indenture, dated as of October 7, 1996, between the Company and Fleet, as trustee, relating to the Company's 7.25% Convertible Subordinated Debentures, due 2001, including form thereof. (incorporated by reference to the Company's Current Report on Form 8-K dated October 7, 1996) 4.9 Form of Global Note relating to the Remarketed Reset Notes due July 9, 2007. (incorporated by reference to the Company's Current Report on Form 8-K dated July 2, 1997) 4.10 Indenture, dated as of July 9, 1997, by and between the Company and State Street Bank and Trust Company as Trustee. (filed herewith) 4.11 Supplemental Indenture, dated July 9, 1997, by and between the Company and State Street Bank and Trust Company as Trustee, relating to the Remarketed Reset Notes due July 9, 2007. (filed herewith) 4.12 Supplemental Indenture No. 2 dated as of February 23, 1998 between the Company and State Street Bank and Trust Company pertaining to $50,000,000 in principal amount of Remarketed Reset Notes Due July 9, 2007. (filed herewith) 4.13 Indenture dated as of December 18, 1997 by and between the Company and State Street Bank and Trust Company, as Trustee. (incorporated by reference to the Company's Current Report on Form 8-K dated December 5, 1997) 27
4.14 Supplemental Indenture dated as of December 18, 1997 by and between the Company and State Street Bank and Trust Company, as Trustee relating to the Company's 6 3/4% Senior Notes due 2002. (incorporated by reference to the Company's Current Report on Form 8-K dated December 5, 1997) 4.15 Registration Rights Agreement dated as of December 18, 1997 by and between the Company and Merrill Lynch & Co. (incorporated by reference to the Company's Current Report on Form 8-K dated December 5, 1997) 4.16 Supplemental Indenture No. 3 dated as of February 23, 1998 between the Company and State Street Bank and Trust Company pertaining to the Company's 6.7% Senior Notes due 2005. (filed herewith) 8.1 Opinion of Sullivan & Worcester, LLP as to certain tax matters. (filed herewith) 9.1 Amended and Restated AMS Voting Trust Agreement. (incorporated by reference to the Company's Registration Statement on Form S-11, File No. 33-55684, dated December 23, 1992, and amendments thereto) 10.1 Advisory Agreement, as amended.(+) (incorporated by reference to the Company's Registration Statement on Form S-11, File No. 33-16799, dated August 27, 1987, and amendments thereto) 10.2 Second Amendment to the Advisory Agreement.(+) (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1993) 10.3 Third Amendment to Advisory Agreement by and between the Company and the Advisor, dated June 26, 1997. (+) (incorporated by reference to the Company's Current Report on Form 8-K, dated July 2, 1997) 10.4 Advisory Agreement by and between REIT Management and Research, Inc. and the Company dated as of January 1, 1998. (+) (incorporated by reference to the Company's Current Report on Form 8-K, dated February 11, 1998) 10.5 Agreement (for Property Management and Leasing Agent) between M&P Partners Limited Partnership and various subsidiaries of the Company, effective as of March 25, 1997, relating to properties leased to Agencies of the United States Government. (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1997) 10.6 Master Management Agreement by and among M&P Partners Limited Partnership and the parties named therein dated as of December 31, 1997. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 11, 1998) 10.7 Master Management Agreement by and between various subsidiaries of the Company and REIT Management and Research, Inc., dated as of January 1, 1998. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 27, 1998) 10.8 Parking Operation Management Agreement by and between HUB Properties Trust, a subsidiary of the Company, and REIT Management and Research, Inc., dated as of January 1, 1998. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 27, 1998) 10.9 Incentive Share Award Plan.(+) (incorporated by reference to the Company's Registration Statement on Form S-11, File No. 33-55684, dated December 23, 1992, and amendments thereto) 10.10 Master Lease Document. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.11 AMS Properties Security Agreement. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 28
10.12 AMS Subordination Agreement. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.13 AMS Guaranty. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.14 AMS Pledge Agreement. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.15 AMS Holding Co. Pledge Agreement. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.16 Amended and Restated Renovation Funding Agreement dated as of January 13, 1992 between AMS Properties, Inc. and the Company. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.17 Amendment to AMS Transaction Documents. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1991) 10.18 GCI Master Lease Document. (incorporated by reference to the Company's Registration Statement on Form S-11, File No. 33-55684, dated December 23, 1992, and amendments thereto) 10.19 Amended and Restated HRP Shares Pledge Agreement. (incorporated by reference to the Company's Registration Statement on Form S-11, File no. 33-55684, dated December 23, 1992, and amendments thereto) 10.20 Guaranty Cross-Default and Cross-Collateralization Agreement. (incorporated by reference to the Company's Registration Statement on Form S-11, File No. 33-55684, dated December 23, 1992, and amendments thereto) 10.21 Connecticut Subacute Corporation II Lease Document Waterbury. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 10.22 Connecticut Subacute Corporation II Lease Document Cheshire. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 10.23 Connecticut Subacute Corporation II Lease Document New Haven. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 10.24 Vermont Subacute/New Hampshire Subacute Master Lease Agreement (Chapple). (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 10.25 Amended and Restated Agreement and Plan of Reorganization (Chapple). (incorporated by reference to the Company's Annual report on Form 10-K for the year ended December 31, 1995) 10.26 Purchase Option Agreement. (incorporated by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995) 10.27 Amended and Restated Promissory Note, dated July 29, 1996, from Connecticut Subacute Corporation to the Company. (incorporated by reference to the Company's Current Report on Form 8-K dated October 1, 1996) 10.28 Third Amended and Restated Revolving Loan Agreement, dated as of March 15, 1996, among Health and Retirement Properties Trust, as borrower, the lenders named therein, Kleinwort Benson Limited, as agent, Wells Fargo Bank, National Association, as administrative agent, Natwest Bank, N.A., as co- agent, et al. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 17, 1997) 29
10.29 Letter Agreement, dated as of October 21, 1996, among Health and Retirement Properties Trust, as borrower, Kleinwort Benson Limited, as agent, and the Majority Lenders. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 17, 1997) 10.30 First Amendment, dated as of December 15, 1996, to Third Amended and Restated Revolving Loan Agreement, dated as of March 15, 1996, among Health and Retirement Properties Trust, as borrower, Kleinwort Benson Limited, as agent, Wells Fargo Bank, National Association, as administrative agent, Natwest Bank, N.A., as co-agent, et al. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 17, 1997) 10.31 Second Amendment and Waiver, dated as of March 19, 1997, to Third Amended and Restated Revolving Loan Agreement, dated as of March 15, 1996, among Health and Retirement Properties Trust, as borrower, the lenders named therein, Dresdner Kleinwort Benson North America LLC (as successor to Kleinwort Benson Limited), as agent, Wells Fargo Bank, National Association, as administrative agent, Fleet National Bank (as successor to Fleet Bank of Massachusetts), as co-agent, et al. (incorporated by reference to the Company's Current Report on Form 8-K dated March 20, 1997) 10.32 Third Amendment dated as of July 30, 1997 to the Third Amended and Restated Revolving Loan Agreement by and among the Company, as borrower, the lenders named therein, Kleinwort Benson North America LLC (as successor to Kleinwort Benson Limited), as agent, Wells Fargo Bank, National Association, as administrative agent, and Fleet National Bank (as successor to NatWest Bank), as co- agent. (incorporated by reference to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997) 10.33 Fourth Amendment dated as of November 14, 1997 to the Third Amendment and Restated Revolving Loan Agreement by and among the Company, as borrower, the lenders named therein, Dresdner Kleinwort Benson North America LLC, as agent, and Fleet National Bank, as administrative agent. (filed herewith) 10.34 Merger Agreement dated February 17, 1997 between Health and Retirement Properties Trust and Government Property Investors, Inc. including forms to Escrow Agreement, Investment and Registration Rights Agreement, Voting Agreement, Information Access Agreement, Indemnification Agreement, Service Contract, Non-Solicitation Agreement and Second Closing Escrow Agreement. (incorporated by reference to the Company's Current Report on Form 8-K, dated February 17, 1997) 10.35 Amendment No. 1 to Agreement of Merger dated March 25, 1997 between the Company and Government Property Investors, Inc. (incorporated by reference to the Company's Registration Statement on Form S-3 (File No. 333-29675) filed with the Commission on June 20, 1997) 10.36 Remarketing Agreement (including form of Remarketing Underwriting Agreement) relating to the Remarketed Reset Notes due July 9, 2007 by and between the Company and Merrill Lynch & Co., dated as of July 2, 1997. (incorporated by reference to the Company's Current Report on Form 8-K, dated July 2, 1997) 10.37 Purchase and Sale Agreement dated September 25, 1997 by and between 7 West Associates LLC, as seller, and the Company, as purchaser. (incorporated by reference to the Company's Current Report on Form 8-K, dated October 1, 1997) 10.38 Contribution Agreement (and Escrow Instructions) with respect to the acquisition of the Cedars-Sinai Medical Office Towers dated as of April 20, 1997 by and between Medical Office Buildings, Ltd., as seller, and the Company, as buyer. (incorporated by reference to the Company's Current Report on Form 8-K, dated October 1, 1997) 10.39 Purchase and Sale Agreement dated October 23, 1997 by and between Franklin Office Associates, as seller, and the Company, as purchaser. (incorporated by reference to the Company's Current Report on Form 8-K, dated November 13, 1997) 10.40 Purchase and Sale Agreement dated November 24, 1997 by and between Investors Life Insurance Company of North America and Family Life Insurance Company, as seller and the Company, as purchaser. (incorporated by reference to the Company's Current Report on Form 8-K, dated December 5, 1997) 30
12.1 Statement regarding computation of ratio of earning to fixed charges. (filed herewith) 21.1 Subsidiaries of the Registrant. (filed herewith) 23.1 Consent of Ernst & Young LLP. (filed herewith) 23.2 Consent of Arthur Andersen LLP. (filed herewith) 23.3 Consent of Sullivan & Worcester LLP. (included as part of Exhibit 8.1 hereto) 99.1 Current Report on Form 8-K dated February 27, 1998. (filed herewith) (+) Management contract or compensatory plan or arrangement. (b) During the fourth quarter of 1997, the Company filed the following Current Reports on Form 8-K: (i) Current Report on Form 8-K dated October 1, 1997 relating to the purchase of a 420,368 square foot office building located at 7 West 34th Street in New York City, New York from 7 West Associates LLC, a wholly owned subsidiary of Orchard Properties, Inc., for $110 million (Items 2 and 7), as amended by an Amendment dated December 12, 1997. (ii) Current Report on Form 8-K dated November 13, 1997 relating to the purchase of an office building with approximately 608,161 square foot located at One Franklin Plaza, in Philadelphia, Pennsylvania from Franklin Office Associates for $75.5 million plus closing costs in a negotiated arms-length transaction (Items 2 and 7), as amended by an Amendment dated January 12, 1998. (iii) CurrentReport on Form 8-K dated December 5, 1997 relating to (i) the purchase of Bridgepoint Square, an office complex containing five commercial office properties with approximately 441,145 square foot located in Austin, Texas, from Investors Life Insurance Company of North America and Family Life Insurance Company for $78 million plus closing costs in a negotiated arms-length transaction and (ii) the completion of a private placement of $150 million of 6 3/4% Senior Notes due 2002. (Items 2, 5 and 7), as amended by an Amendment dated January 23, 1998. 31
<TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Retirement and Assisted Living Communities: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Scottsdale AZ $ 979 $ 8,807 $ 140 $ 990 $ 8,936 $ 9,926 $ 809 5/16/94 1990 Sun City AZ 1,174 10,569 173 1,189 10,727 11,916 949 6/17/94 1990 Mesa AZ 1,480 13,320 -- 1,480 13,320 14,800 347 12/27/96 1985 Laguna Hills CA 3,132 28,184 475 3,172 28,619 31,791 2,356 9/9/94 1975 Boca Raton FL 4,404 39,633 799 4,474 40,362 44,836 3,655 5/20/94 1994 Deerfield Beach FL 1,664 14,972 298 1,690 15,244 16,934 1,381 5/16/94 1986 Ft. Myers FL 2,349 21,137 419 2,385 21,520 23,905 1,816 8/16/94 1984 Palm Harbor FL 3,327 29,945 591 3,379 30,484 33,863 2,761 5/16/94 1992 Port St. Lucie FL 1,223 11,009 219 1,242 11,209 12,451 1,015 5/20/94 1993 Chicago IL 6,200 55,800 -- 6,200 55,800 62,000 1,453 12/27/96 1990 Arlington Heights IL 3,621 32,587 535 3,665 33,078 36,743 2,724 9/9/94 1986 Silver Spring MD 3,229 29,065 786 3,301 29,779 33,080 2,574 7/25/94 1992 Rochester NY 1,070 9,630 -- 1,070 9,630 10,700 251 12/27/96 1988 Huron SD 45 968 1 44 970 1,014 149 6/30/92 1968 Bellaire TX 1,223 11,010 178 1,238 11,173 12,411 1,012 5/16/94 1991 Arlington VA 1,859 16,734 295 1,885 17,003 18,888 1,470 7/25/94 1992 Charlottesville VA 2,936 26,422 472 2,976 26,854 29,830 2,377 6/17/94 1991 Virginia Beach VA 881 7,926 137 890 8,054 8,944 729 5/16/94 1990 Spokane WA 1,035 13,315 -- 1,035 13,315 14,350 224 5/7/97 1993 -------------------- -------- ------------------------------- --------- Subtotal 41,831 381,033 5,518 42,305 386,077 428,382 28,052 -------------------- -------- ------------------------------- --------- Long-Term Care Facilities: Phoenix AZ 655 2,525 5 655 2,530 3,185 399 6/30/92 1963 Yuma AZ 223 2,100 4 223 2,104 2,327 326 6/30/92 1984 Yuma AZ 103 604 1 103 605 708 94 6/30/92 1984 Fresno CA 738 2,577 188 738 2,765 3,503 564 12/28/90 1968 Lancaster CA 601 1,859 1,029 601 2,888 3,489 524 12/28/90 1963 Newport Beach CA 1,176 1,729 1,223 1,176 2,952 4,128 508 12/28/90 1962 Palm Springs CA 103 1,264 982 103 2,246 2,349 369 12/28/90 1969 San Diego CA 1,114 1,073 480 1,114 1,553 2,667 320 12/28/90 1969 Stockton CA 382 2,750 4 382 2,754 3,136 429 6/30/92 1968 Tarzana CA 1,277 977 806 1,278 1,782 3,060 351 12/28/90 1969 Thousand Oaks CA 622 2,522 310 622 2,832 3,454 557 12/28/90 1965 Van Nuys CA 716 378 225 718 601 1,319 134 12/28/90 1969 S-1
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Long-Term Care Facilities - continued: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Cannon City CO 292 6,228 -- 292 6,228 6,520 45 9/22/97 1970 Colorado Springs CO 246 5,236 -- 246 5,236 5,482 38 9/22/97 1972 Delta CO 167 3,570 -- 167 3,570 3,737 26 9/22/97 1963 Grand Junction CO 6 2,583 1,316 136 3,769 3,905 402 12/30/93 1978 Grand Junction CO 204 3,875 329 204 4,204 4,408 518 12/30/93 1968 Lakewood CO 232 3,766 724 232 4,490 4,722 846 12/28/90 1972 Littleton CO 185 5,043 349 185 5,392 5,577 1,069 12/28/90 1965 Cheshire CT 520 7,380 1,559 520 8,939 9,459 2,315 11/1/87 1963 Killingly CT 240 5,360 460 240 5,820 6,060 1,799 5/15/87 1972 New Haven CT 1,681 14,953 1,236 1,681 16,189 17,870 2,825 5/11/92 1971 Waterford CT 86 4,714 453 86 5,167 5,253 1,656 5/15/87 1965 Willimantic CT 134 3,566 479 166 4,013 4,179 1,192 5/15/87 1965 College Park GA 300 2,702 23 300 2,725 3,025 136 5/15/96 1985 Glenwood GA 174 1,564 3 174 1,567 1,741 72 5/15/96 1972 Dublin GA 442 3,982 80 442 4,062 4,504 193 5/15/96 1968 Marrietta GA 300 2,702 35 300 2,737 3,037 130 5/15/96 1969 Clarinda IA 77 1,453 293 77 1,746 1,823 200 12/30/93 1968 Council Bluffs IA 225 2,125 (1,133) 225 992 1,217 139 4/1/95 1963 Mediapolis IA 94 1,776 250 94 2,026 2,120 241 12/30/93 1973 Pacific Junction IA 32 368 (57) 32 311 343 25 4/1/95 1978 Winterset IA 111 2,099 492 111 2,591 2,702 296 12/30/93 1973 Nashville IL 75 2,556 80 75 2,636 2,711 530 12/28/90 1964 Ellinwood KS 130 1,420 (230) 130 1,190 1,320 96 4/1/95 1972 St. Joseph MO 111 1,027 195 111 1,222 1,333 124 6/4/93 1976 Tarkio MO 102 1,938 415 102 2,353 2,455 264 12/30/93 1970 Grand Island NE 119 1,331 484 119 1,815 1,934 105 4/1/95 1963 Rochester NH 466 3,219 4 466 3,223 3,689 238 1/30/95 1972 Burlington NJ 1,300 11,700 7 1,300 11,707 13,007 660 9/28/95 1994 Akron OH 330 5,370 727 330 6,097 6,427 1,966 5/15/87 1971 Grove City OH 332 3,081 32 332 3,113 3,445 352 6/4/93 1965 Huron SD 144 3,108 4 144 3,112 3,256 480 6/30/92 1968 Sioux Falls SD 253 3,062 4 253 3,066 3,319 475 6/30/92 1960 Barre VT 261 4,530 133 389 4,535 4,924 335 1/30/95 1979 S-2
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Long-Term Care Facilities - continued: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Barre VT 129 3,825 4 129 3,829 3,958 283 1/30/95 1972 Bennington VT 160 4,385 5 160 4,390 4,550 325 1/30/95 1971 Burlington VT 791 5,985 410 872 6,314 7,186 464 1/30/95 1968 Springfield VT 50 747 1 50 748 798 55 1/30/95 1976 Springfield VT 89 3,724 157 242 3,728 3,970 276 1/30/95 1971 St. Albans VT 154 710 1 154 711 865 53 1/30/95 1900 St. Johnsbury VT 95 3,416 4 95 3,420 3,515 253 1/30/95 1978 Seattle WA 256 4,869 68 256 4,937 5,193 632 11/1/93 1972 Brookfield WI 834 3,849 8,014 834 11,863 12,697 1,580 12/28/90 1954 Clintonville WI 49 1,625 88 30 1,732 1,762 339 12/28/90 1965 Clintonville WI 14 1,695 37 14 1,732 1,746 340 12/28/90 1960 Madison WI 144 1,633 109 144 1,742 1,886 341 12/28/90 1920 Milwaukee WI 277 3,883 -- 277 3,883 4,160 655 3/27/92 1969 Milwaukee WI 116 3,438 123 116 3,561 3,677 697 12/28/90 1960 Waukesha WI 68 3,452 2,232 68 5,684 5,752 883 12/28/90 1958 Laramie WY 191 3,632 200 191 3,832 4,023 475 12/30/93 1964 Worland WY 132 2,503 589 132 3,092 3,224 339 12/30/93 1970 -------------------- -------- ------------------------------- --------- Subtotal 20,630 201,116 26,045 21,138 226,653 247,791 32,353 -------------------- -------- ------------------------------- --------- Long-Term Care Facilities with Subacute Services: Wallingford CT 557 11,043 2,374 557 13,417 13,974 3,894 12/23/86 1974 Waterbury CT 514 10,186 2,893 630 12,963 13,593 3,548 12/23/86 1971 Forestville CT 465 9,235 3,083 478 12,305 12,783 3,371 12/23/86 1972 Waterbury CT 1,003 9,023 914 1,003 9,937 10,940 1,727 5/11/92 1974 Boston MA 2,164 20,836 1,978 2,164 22,814 24,978 5,955 5/1/89 1968 Worcester MA 1,829 15,071 1,869 1,829 16,940 18,769 4,888 5/1/88 1970 Hyannis MA 829 7,463 -- 829 7,463 8,292 1,396 5/11/92 1972 Middleboro MA 1,771 15,752 -- 1,771 15,752 17,523 2,914 5/11/92 1975 North Andover MA 1,448 11,049 -- 1,448 11,049 12,497 2,067 5/11/92 1985 Canonsburg PA 1,499 13,493 606 1,518 14,080 15,598 3,094 3/1/91 1985 -------------------- -------- ------------------------------- --------- Subtotal 12,079 123,151 13,717 12,227 136,720 148,947 32,854 -------------------- -------- ------------------------------- --------- S-3
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Medical and Other Office Buildings and Clinics: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Anaheim CA 695 6,257 -- 695 6,257 6,952 78 12/5/97 1992 Anaheim CA 134 1,204 -- 134 1,204 1,338 15 12/5/97 1970 Anaheim CA 82 736 -- 82 736 818 9 12/5/97 1970 Los Angeles CA 10,131 99,569 -- 10,131 99,569 109,700 1,590 5/15/97 1979 San Diego CA 1,425 12,842 362 1,425 13,204 14,629 384 12/31/96 1985 San Diego CA 4,205 38,335 45 4,205 38,380 42,585 999 12/5/96 1985 Sacramento CA 644 3,206 77 644 3,283 3,927 277 12/18/95 1988 Aurora CO 1,440 12,963 -- 1,440 12,963 14,403 162 11/14/97 1993 Washington DC 2,485 22,696 773 2,485 23,469 25,954 764 9/3/96 1976 Washington DC 1,873 16,703 -- 1,873 16,703 18,576 211 12/19/97 1966 Boston MA 3,378 30,397 750 3,378 31,147 34,525 1,803 9/28/95 1985 Boston MA 1,447 13,028 39 1,447 13,067 14,514 748 9/28/95 1993 Boston MA 1,500 13,500 236 1,500 13,736 15,236 699 12/18/95 1988 Charlton MA 141 1,269 8 141 1,277 1,418 20 5/15/97 1988 Fitchburg MA 223 2,004 10 223 2,014 2,237 31 5/15/97 1994 Grafton MA 37 336 5 37 341 378 5 5/15/97 1930 Millbury MA 34 309 4 34 313 347 5 5/15/97 1950 Milford MA 144 1,297 9 144 1,306 1,450 20 5/15/97 1989 Northbridge MA 32 290 5 32 295 327 5 5/15/97 1962 Paxton MA 24 212 4 24 216 240 3 5/15/97 1984 Spencer MA 211 1,902 11 211 1,913 2,124 30 5/15/97 1992 Sturbridge MA 83 751 7 83 758 841 12 5/15/97 1986 Webster MA 315 2,834 14 315 2,848 3,163 44 5/15/97 1995 Westborough MA 166 1,498 8 166 1,506 1,672 23 5/15/97 1977 Westborough MA 396 3,562 15 396 3,577 3,973 56 5/15/97 1986 Westborough MA 42 381 5 42 386 428 6 5/15/97 1900 Westborough MA 24 216 4 24 220 244 3 5/15/97 1953 Westwood MA 303 2,740 50 303 2,790 3,093 78 11/26/96 1980 Westwood MA 537 4,960 -- 537 4,960 5,497 120 1/8/97 1977 Worcester MA 111 1,000 6 111 1,006 1,117 16 5/15/97 1986 Worcester MA 1,132 10,186 38 1,132 10,224 11,356 159 5/15/97 1989 Worcester MA 895 8,052 30 895 8,082 8,977 126 5/15/97 1990 Worcester MA 354 3,189 14 354 3,203 3,557 50 5/15/97 1985 Worcester MA 265 2,385 11 265 2,396 2,661 37 5/15/97 1972 S-4
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Medical and Other Office Buildings and Clinics - continued: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> Worcester MA 158 1,417 7 158 1,424 1,582 22 5/15/97 1992 Baltimore MD -- 12,517 -- -- 12,517 12,517 156 11/18/97 1988 Brooklyn NY 775 7,054 2 775 7,056 7,831 272 6/6/96 1982 New York NY 44,000 66,928 -- 44,000 66,928 110,928 414 10/1/97 1989 White Plains NY 1,200 10,870 2 1,200 10,872 12,072 509 2/6/96 1995 Fort Washington PA 1,189 5,605 -- 1,189 5,605 6,794 41 9/22/97 1967 Fort Washington PA 1,877 8,869 -- 1,877 8,869 10,746 65 9/22/97 1960 Fort Washington PA 689 3,248 -- 689 3,248 3,937 24 9/22/97 1970 Horsham PA 747 3,664 -- 747 3,664 4,411 26 9/22/97 1983 King of Prussia PA 690 3,254 -- 690 3,254 3,944 27 9/22/97 1964 Philadelphia PA 7,897 71,070 -- 7,897 71,070 78,967 888 11/13/97 1987 Lincoln RI 810 7,290 -- 810 7,290 8,100 91 11/13/97 1997 Austin TX 2,319 20,869 -- 2,319 20,869 23,188 261 12/5/97 1996 Austin TX 1,642 14,654 -- 1,642 14,654 16,296 185 12/5/97 1997 Austin TX 1,403 12,626 -- 1,403 12,626 14,029 158 12/5/97 1997 Austin TX 1,226 11,035 -- 1,226 11,035 12,261 138 12/5/97 1997 Austin TX 1,220 11,568 -- 1,220 11,568 12,788 137 12/5/97 1986 Fairfax VA 569 5,122 66 569 5,188 5,757 134 12/3/96 1990 -------------------- -------- ------------------------------- --------- Subtotal 103,319 598,469 2,617 103,319 601,086 704,405 12,136 -------------------- -------- ------------------------------- --------- Government Office Buildings: Petersburg AK 728 272 -- 728 272 1,000 60 3/25/97 1983 Phoenix AZ 2,657 11,562 -- 2,657 11,562 14,219 219 5/15/97 1997 Safford AZ 604 2,760 -- 604 2,760 3,364 50 3/25/97 1992 Tuscon AZ 727 3,318 -- 727 3,318 4,045 60 3/25/97 1993 Los Angeles CA 1,014 9,149 -- 1,014 9,149 10,163 108 7/11/97 1996 San Diego CA 4,058 18,527 -- 4,058 18,527 22,585 334 3/25/97 1996 San Diego CA 2,836 13,007 1,120 2,836 14,127 16,963 233 3/25/97 1996 San Diego CA 2,772 12,658 -- 2,772 12,658 15,430 228 3/25/97 1994 Golden CO 527 -- 3,153 527 3,153 3,680 -- 3/25/97 1997 Washington DC 11,414 52,185 60 11,414 52,245 63,659 939 3/25/97 1996 Washington DC 6,634 30,202 99 6,634 30,301 36,935 546 3/25/97 1989 Savannah GA 517 2,357 -- 517 2,357 2,874 42 3/25/97 1990 Kansas City KS 990 4,521 190 990 4,711 5,701 81 3/25/97 1990 College Park MD 8,957 40,899 -- 8,957 40,899 49,856 737 3/25/97 1994 S-5
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Initial Cost to Gross Amount Carried at Close of Company Period 12/31/97 ------------------ ------------------------- Costs Capitalized Subsequent Buildings to Buildings Accumulated Original & Acquisi- & Depreciation Date Construction Location State Land Equipment tion Land Equipment Total(1) (2) Acquired Date - ------------------------------------------------------------------------------------------------------------------------------------ Government Office Buildings - continued: <S> <C> <C> <C> <C> <C> <C> <C> <C> <C> Gaithersburg MD 4,164 19,015 -- 4,164 19,015 23,179 342 3/25/97 1995 Germantown MD 2,191 10,004 -- 2,191 10,004 12,195 180 3/25/97 1995 Oxon Hill MD 3,024 13,810 -- 3,024 13,810 16,834 249 3/25/97 1992 Kansas City MO 1,372 6,264 -- 1,372 6,264 7,636 113 3/25/97 1995 Albuquerque NM 469 2,143 -- 469 2,143 2,612 39 3/25/97 1984 Sante Fe NM 1,474 6,727 -- 1,474 6,727 8,201 121 3/25/97 1987 Buffalo NY 4,187 19,117 13 4,187 19,130 23,317 344 3/25/97 1994 Oklahoma City OK 4,369 20,057 -- 4,369 20,057 24,426 359 3/25/97 1992 Houston TX 1,087 4,573 -- 1,087 4,573 5,660 89 3/25/97 1993 Waco TX 1,081 9,657 13 1,081 9,670 10,751 -- 12/23/97 1997 Falls Church VA 3,285 14,999 -- 3,285 14,999 18,284 270 3/25/97 1993 Richland WA 3,774 17,231 -- 3,774 17,231 21,005 310 3/25/97 1995 Falling Waters WV 861 3,931 -- 861 3,931 4,792 71 3/25/97 1993 Cheyenne WY 1,820 8,312 -- 1,820 8,312 10,132 150 3/25/97 1995 -------------------- -------- ------------------------------- --------- Subtotal 77,593 357,257 4,648 77,593 361,905 439,498 6,274 -------------------- -------- ------------------------------- --------- Total Real Estate $255,452 $1,661,026 $52,545 $256,582 $1,712,441 $1,969,023 $111,669 ==================== ======== =============================== ========= <FN> (1) Aggregate cost for federal income tax purposes is approximately $1,876,981. (2) Depreciation is provided for on buildings and improvements for periods ranging up to 40 years and on equipment up to 12 years. </FN> </TABLE> S-6
<TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE III - continued REAL ESTATE AND ACCUMULATED DEPRECIATION December 31, 1997 (Dollars in thousands) Real Estate and Accumulated Equipment Depreciation --------------- --------------- <S> <C> <C> Balance at January 1, 1995 $ 673,083 $ 39,570 Additions 309,853 21,047 Disposals (24,376) (2,352) Real estate investments of Hospitality Properties Trust (180,349) (2,410) --------------- --------------- Balance at December 31, 1995 778,211 55,855 Additions 227,528 21,066 --------------- --------------- Balance at December 31, 1996 1,005,739 76,921 Additions 998,579 37,619 Disposals (35,295) (2,871) --------------- --------------- Balance at December 31, 1997 $ 1,969,023 $ 111,669 =============== =============== </TABLE> S-7
<TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE IV MORTGAGE LOANS ON REAL ESTATE December 31, 1997 (Dollars in thousands) Principal Amount of (1) Loans Subject to Face Carrying Delinquent Final Value of Value Principal Location Interest Rate Maturity Date Periodic Payment Terms Mortgage of Mortgage or Interest - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> <C> <C> Farmington, MI 11.50% 1/1/06 Principal and interest, payable monthly in $4,239 $4,239 $ -- arrears. $3.8 million due at maturity. Jacksonville, FL 10.50% 3/31/06 Interest only, payable monthly in arrears. 5,000 5,000 -- $5.0 million due at maturity. Howell, MI 11.50% 1/1/06 Principal and interest, payable monthly in 5,028 5,028 -- arrears. $4.5 million due at maturity. Medina, OH 8.50% 2/1/98 Principal and interest, payable monthly in 5,760 5,725 -- arrears. $5.8 million due at maturity. Ainsworth, NE 9.00% 12/31/16 Interest only, payable monthly in arrears; 5,171 5,171 -- Ashland, NE principal and interest starting 1998. Blue Hill, NE $2.8 million due at maturity. Gretna, NE Sutherland, NE Waverly, NE Aberdeen, NC 11.35% 4/30/07 Interest only, payable monthly in arrears; 11,472 11,472 -- King, NC $11.5 million repaid in January 1998. New Bern, NC Milwaukee, WI 11.50% 1/31/13 Principal and interest, payable monthly in 11,466 11,466 -- Pewaukee, WI arrears. $9.6 million due at maturity. Torrance, CA 12.50% 12/31/02 Principal and interest, payable monthly in 12,240 12,240 -- Torrance, CA arrears. $11.7 million due at maturity. Anaheim, CA S-8
<CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE IV MORTGAGE LOANS ON REAL ESTATE December 31, 1997 (Dollars in thousands) Principal Amount of (1) Loans Subject to Face Carrying Delinquent Final Value of Value Principal Location Interest Rate Maturity Date Periodic Payment Terms Mortgage of Mortgage or Interest - ------------------------------------------------------------------------------------------------------------------------------------ <S> <C> <C> <C> <C> <C> <C> Slidell, LA 11.00% 12/31/10 Principal and interest, payable monthly in 19,185 19,185 -- arrears. $13.9 million due at maturity. 15 Mortgages 8.02% - 13.75% 2/99-12/16 Interest only or principal and interest, 23,077 21,976 -- payable monthly in arrears. ---------------------------------------- $ 102,638 $ 101,502 $ -- ======================================== <FN> (1) Also represents cost for federal income tax purposes. </FN> </TABLE> S-9
<TABLE> <CAPTION> HEALTH AND RETIREMENT PROPERTIES TRUST SCHEDULE IV-continued MORTGAGE LOANS ON REAL ESTATE December 31, 1997 (Dollars in thousands) Reconciliation of the carrying amount of mortgage loans at the beginning of the period: <S> <C> Balance at January 1, 1995 $ 125,791 New mortgage loans 40,064 Collections of principal, net of discounts (26,607) ------------- Balance at December 31, 1995 139,248 New mortgage loans 5,918 Collections of principal, net of discounts (7,921) ------------- Balance at December 31, 1996 137,245 New mortgage loans 1,520 Collections of principal, net of discounts (37,263) ------------- Balance at December 31, 1997 $ 101,502 ============= </TABLE> S-10
SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. HEALTH AND RETIREMENT PROPERTIES TRUST By: /s/ David J. Hegarty David J. Hegarty President and Chief Operating Officer Dated: March 11, 1998 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons, or by their attorney-in-fact, in the capacities and on the dates indicated. <TABLE> <CAPTION> Signature Title Date <S> <C> <C> /s/ David J. Hegarty President and Chief Operating Officer March 11, 1998 - ------------------------------------ David J. Hegarty /s/ Ajay Saini Treasurer and Chief Financial Officer March 11, 1998 - ------------------------------------ Ajay Saini /s/ Bruce M. Gans, M.D. Trustee March 11, 1998 - ------------------------------------ Bruce M. Gans, M.D. /s/ Ralph J. Watts Trustee March 11, 1998 - ------------------------------------ Ralph J. Watts /s/ Justinian Manning, C.P. Trustee March 11, 1998 - ------------------------------------ Rev. Justinian Manning, C.P. /s/ Gerard M. Martin Trustee March 11, 1998 - ------------------------------------ Gerard M. Martin /s/ Barry M. Portnoy Trustee March 11, 1998 - ------------------------------------ Barry M. Portnoy </TABLE>